A UTMA account allows children to receive gifts from relatives in their names without the aid of a guardian or a trustee. It is an investment account in children’s own names, managed by guardian, and transferred to children when they come to age. We Chinese have the tradition of giving children “red packet” with money in Chinese New Year as wishes of good fortune, and UTMA account is a good way to keep the money and invest for their future. Also I ask relatives to pick an investment for their money to “show” their investment skills.
Investing means receiving interests, dividends, or captial gain distributions. And at tax time, a form 1099 would come. It’s not very obvious on how to handle the reported income in my children’s name. Should I file a separate return, should I inclde them on my own return, or else?
How you report children’s investment income depends on how much they’ve made. A person is considered your child if they’re a dependent under the age of 19 (24 if a full-time student) as of December 31, 2022.
- If your child’s only income is unearned and doesn’t exceed $1,150, it doesn’t need to be reported
- If your child’s unearned income is between $1,150 and $12,950, they may need to file their own return, but in certain situations, this income can be included on your return
- If your child’s unearned income is $12,950 or more, they need to file their own return
Unearned income can be thought of as “passive” income that doesn’t involve active work or a business activity, and in UTMA’s case, it’s mostly interest, dividends, and investment income.
So in my case, I do not need to report the form 1099-DIV on my return, nor do I have to file a separate return for my children, given they received less than $100 of dividends.
This rule has tax advantages too. If the unearned income is less than $1,150, it’s basically tax-free. If the income is between between $1,150 and $12,950, it is better to file a separate return, if your children’s income is less than yours, which is almost always true. If you want to report these income in your tax return, go to “Wage & Income” -> “Less Common Income” -> “Child’s Income”.
The tax savings can be significant if you’re in high income bracket and subject to Net Investment Income Tax (NIIT). For unearned income up to $1,150, it saves up to $469.2 of taxes (interest taxed at 37% income bracket and 3.8% NIIT). By filing a separate return for your children, the unearned income are taxed at a much lower rate and are likely to be exempt from NIIT.
This also means it’s better to put assets in your children’s name and let them grow with a lower tax burden along the way, than distributing to your children in your estate by paying higher taxes on passive income over the years.