Custodial Accounts

Since minors generally lack the ability to manage property, custodial accounts are set up for them. Custodial accounts are set up in a bank, mutual fund, or brokerage firm and can achieve the benefits of income splitting.

Rules governing custodial accounts vary according to individual states. So, check with your local state to find out the requirements you need to follow. The differences between state laws, however, do not affect federal tax consequences in general. Purchase of securities through custodial accounts provides a practical method for making gifts of securities to a minor child, eliminating the need for a trust. Here is how it works:

An adult opens a stock brokerage account for a minor child. Then, the adult registers the securities in the name of a custodian for the child’s benefit. The custodian may be a parent, child’s guardian, grandparent, brother, sister, uncle, or aunt. In some states, the custodian may be any adult, bank, or trust company.

The custodian has the right to sell securities in the account and collect sales proceeds plus investment income. The custodian can use the proceeds and investment income for the child’s benefit or reinvestment.

Back To Top

Filing Requirements

Children need to file an income tax return, either online or offline, when the following conditions are met:

• A dependent child needs to have more than $850 of earned and investment income.
• A dependent child who has not received any investment income, must have earned income of at least $5,350.
• A dependent child cannot claim a personal exemption on his or her tax return.
• A dependent child may have a standard deduction limitation. It is known as the reduced standard deduction rule. This is the greater of $850 OR their earned income plus $250. It cannot be more than the basic standard deduction.
• With an income of $1,600 or less, the kiddie tax does not apply. That means all of your child’s income will be taxed at his or her own tax rate.
• The kiddie tax does not apply for children 14 or older.

Back To Top

Help With Financial Planning

You are making your own money and want to find the best ways to save for the future. Where do you turn? There are a variety of trained professionals to assist you in meeting your financial goals. Finding them is easy.

1. There are CFP’s (Certified Financial Planners) and/or financial planners, investment counselors, CPA’s (Certified Public Accountants) and/or accountants, bankers, pension plan specialists – to name a few.
2. To find a financial planner or advisor, look in your phone book. Or, ask around. Your boss may have the name of a good one. Ask your parents. They are smarter than you think, usually.
3. Check into the professional’s background to make certain they are competent. For instance, check with your local Better Business Bureau make sure no one has filed any complaints against them. Then, check with the professional organization they are involved with to make sure they are licensed.
4. Ask some questions.
5. Being comfortable with your financial advisor/retirement planner is essential for your successful financial and retirement planning.

Each financial plan is personalized and unique. Some would require the use of a variety of professionals, some would not. Any way you look at it, proper financial planning will put you on the right track for your financial success.

A Certified Financial Planner is specially trained in different investment and financial planning methods. They are taught how to meet your financial goals and help you live the retirement life you want. Even though you may be a young ‘um now, it is never too early to think about saving for your future. By starting now, you will only benefit.

Once you find a professional to help you with your financial planning, start with an amount that you are comfortable with. There are many young workers who go into their financial planner on a monthly basis and hand over $25 cash to be added to their fund. It grows over time. Every little bit helps!

Back To Top

Individual Retirement Accounts (IRA)

Any working youngster who earns wages can set up an IRA (individual retirement account). Each year, up to $3,000 can be contributed tax-deferred. Your child will not have any income tax liability until he or she exceeds a certain amount.

Roth IRAs provide a tax-free method of accumulating wealth over the years. Contributions are not tax deductible, but there is another tax advantage to owning a Roth IRS. After a five-year waiting period, withdrawals made from the account are tax-free. You must be over age 59-1/2, though.

Your children can also have IRAs if they have earned income from your business. The child’s earned income, of course, comes from wages. You simply put your child on the payroll for performing legitimate services. Pay them on a regular basis at a decent (going rate) fee.

Back To Top

Kiddie Tax Defined

The kiddie tax is another term for taxes on investment income over $1,600 earned by a child under the age of 14. The income is taxed at the parent’s tax rate. The kiddie tax applies only to investment income such as royalties, dividends, interest, rents and profits from property sales. Kiddie tax does not include income from wages and self-employment.

Children who are subject to the kiddie tax include the following:

• Are under age 14 on January 1, 2007
• Had investment income in 2006 that exceeded $1,600. If the child itemized more than $800 worth of deductions that are directly connected to producing that investment income, the $1,600 exemption is increased. It is increased to $800 plus the directly connected deductions.
• Either parent was alive at the end of 2006.

This brings us to what children are not subject to the kiddie tax. They include:

• Any child 14 or older as of January 1, 2007 (for 2006 returns)
• Any child under age 14 with neither parent alive at the end of 2006
• Children under age 14 as of January 1, 2007 who also had 2006 gross investment income of $1,600 or less. Investment income has to exceed $1,600 for the kiddie tax computation to apply.

The kiddie tax is generally computed on Form 8615. This form must be attached to your child’s return. As an exception, if your under age 14 child has interest, dividends, and other tests met, you may use Form 8814 to elect to include your child’s investment income on your own tax return. This is known as the parent’s election. The parent’s election to use Form 8814 to compute the kiddie tax must meet the following tests:

• The total interest and dividends are over $800, but less than $8,000.
• The child’s only income is from dividends and interest.
• Estimated tax payments were not made in the child’s name or Social Security number for 2006.
• There were no overpayments from the child’s 2005 return applies to their 2005 estimated tax.
• Child was not subject to 2006 backup withholding.

If the child’s parents file a joint return, their joint taxable income is entered on Form 8615. Plus, the net investment income of all their children under age 14 is entered here. If the filing separate returns, the larger of the parents’ separate taxable incomes is used on the child’s Form 8615.

For parents who are separated, divorced, unmarried, or living apart for the last six months of the year, the kiddie tax is computed by the parent who has custody of the child for the majority of the tax year.

Back To Top

Suggestions for Financial Planning

There are a variety of ways to help your children understand financial planning and use your money to your benefit. Here are some guidelines you can follow:

• Individual Retirement Account, either traditional or Roth. This is a very popular way to prepare for the future.
• Mutual Funds. By investing your money in a variety of stocks, you can accumulate investment income easily. However, there is a risk involved.
• State & Municipal Bonds. These investments reap tax-free benefits to the investor. The interest received is excluded from gross income.
• U.S. Savings Bonds.
• If your parents own a business, work for them.
• If your parents own a business, have them set up an IRA for you.
• Invest in precious metals such as gold.
• Invest in your education. Knowledge is power.
• Invest in property, securities, and other venues as your financial professional recommends.

These are only a few suggestions on how to invest in your future. Contact a financial professional for more details and professional advice.

Back To Top

U.S. Savings Bonds

Think about having your child report the interest from a U.S. Savings Bonds. The Bonds must be purchased in your child’s name. And, the interest transaction applies only where it can be offset by the child’s standard deduction or itemized deductions. To the extent interest is offset each year, it escapes tax. U.S. savings bonds are a natural choice because income can be deferred until the bond is cashed. If that's after the child reaches 14, even the interest that accrued during his or her younger days is taxed at the child's own rate. However, a recently added tax-saving twist for savings bonds could make it a better deal to buy the bonds in the parent's name rather than making the child the owner. When parents own the bonds and cash them in to pay a child's college tuition and fees, the interest on the bonds can be totally tax-free.

The easiest way to make such a gift to a minor child is to set up a custodial account under your state's Uniform Transfer to Minors Act (UTMA) or Uniform Gift to Minors Act (UGMA). Banks, savings & loans, credit unions, mutual funds and brokerage firms offer such accounts. All you need is a Social Security number for the child and a custodian to manage the account until the minor comes of age. You can name yourself custodian, but if you are also the donor and you die before the child reaches maturity, the gift will be considered part of your estate for federal estate-tax purposes.

An important point about custodial accounts is that you cannot get your gift back. It is irrevocable. Once the child reaches the age set by your state's UTMA or UGMA law—typically 18 or 21—adult supervision of the account ends. At this point, the child can do anything he or she wants with the money.

Back To Top