The “Kiddie Tax” and When to File

One of the most onerous perceived issues with having a trust fund (UGMA or UTMA) for kids are the US income tax rules.  The government is worried that parents will shift assets into the names of their children in order to minimize tax obligations since the children typically have a lower marginal tax rate.  Several years ago I did a decent write up of the tax situation here which I will summarize and update now.  Remember, this blog is not a professional tax advisory source you need to do your own research and tailor it to your particular situation these are general guidelines only.

One element that is interesting is that the funds don’t even receive a 1099-INT any more.  This form is for interest earned annually; you need to earn $10 in interest income to meet this threshold.  With money market earnings (typically what your brokerage account is hooked up to in order to buy stocks) at near 0.01% (as low as they go) you would need to have $100,000 sitting in cash all year long in order to meet the $10 1099-INT threshold ($100,000 * 0.01%) =  $10.  Sound crazy?  Let’s do that math again… 1% of $100,000 is $1000.  Then 1% of that is $10.  If you had actual interest bearing instruments (CD’s, bonds) obviously you can get in the 2% – 5% range depending on duration and riskiness this is for the short term cash parked in your brokerage account tied to your investing.

For filing requirements – Turbo Tax does a nice job of describing them here (they change year by year so make sure that you are looking at the correct information in future years).  For dependents (someone claimed on another persons’ tax returns, typically kids through the end of college) the minimum filing requirements for “earned income” (wages) is $6200.  Thus you need a pretty good summer job or year round part time job to meet this threshold.

However – for “unearned” income (dividends and capital gains), the filing requirement is only $1000, as they note.  Between $1000 and $2000 you can file section 8814 and add the child to the parents’ tax return, and beyond $2000 in unearned income you are now required to add them to the parents’ tax return under the “kiddie tax” provisions.  This assumes that the college student is paying less than 50% of their own required support, which is another calculation but probably a decent assumption given the high cost of a college education today.  Worst case, you need to either add the child’s unearned income to your return or you need to have them file a separate return that is tied to the parents’ return.  This type of work used to be onerous by hand but with a modern tax program such as Turbo Tax can be done more easily.  Turbo Tax will also tell you if you are better off adding the child to your return or having them file separately; there is a second round of internal calculations it does as you make too much money for certain credits when the unearned income is added to the parents’ return but now we are far beyond the scope of this discussion.

All in all, the likeliest way to avoid this is to net out capital gains with capital losses each year which will usually keep you below the $1000 threshold, until dividends get high enough that it pushes you over the top anyways.  This is called “tax loss harvesting” and I described it here.

With modern tax preparation software and a decent understanding of the brokerage house tax forms these tax complications shouldn’t be enough to deter you from setting up a trust fund (UTMA or UGMA).  For our funds they generally don’t start to get big enough to hit the tax threshold until the beneficiaries are in college and by then they often are starting to work anyways and you need to consider it for those purposes.

Finally, one of my proudest moments as someone who set up these funds is when my nephew called and he was doing his own tax return.  While you think of them as the children they once were they all become adults at some point and begin to take responsibility for their own affairs and this is a proud moment.  Taxes and investing are a part of life and one of the most important purposes of this effort from my perspective is to encourage financial literacy.  I also have been blessed because the beneficiaries all seem to have the sense not to try to take out the money and spend it on frivolous items (which they theoretically could do once they are adults) and this is another positive item, learning to defer gratification and save for the future.

Buying CD’s Through Your Brokerage Account

For many years at this site I have advocated buying CD’s through your brokerage account (Fidelity, Vanguard, E-Trade, Schwab, etc…). If you buy a CD through your own bank you will usually get a far lower rate for what is a completely commoditized product (they are all guaranteed through the FDIC, after all) than what you can get if you shop around in a brokerage.


This NY Times little data graphic found in their business section makes this point starkly. Let’s look at the differences between the “average” CD that your bank would offer versus what you can get from these other banks offering the highest yields:

– 6 month CD (0.16% average, 1% for highest paying CD)
– 1 year CD (0.27% average, 1.21% for highest paying CD)
– 5 year CD (0.87% average, 2.25% for highest paying CD)

In an era of ZIRP the difference between almost nothing (0.16%) and 1% is very significant. Someday if interest rates rise we may not have to scrape for nickels like this but in today’s environment you need to vigorously watch expenses, risks, and get returns where ever you can (without taking on more risk).

Purchasing New Stock in Spring

Thanks to sales we have some cash in the portfolio and we will be looking at additional stock purchases in the spring.

– Portfolio 1 – one stock
– Portfolio 2 – one stock
– Portfolio 3 – two stocks
– Portfolio 4 – no stocks
– Portfolio 5 – one stock
– Portfolio 6 – no stocks

We will also look to see if we should put stop losses on any of the stocks. All of the prior stop losses have expired (they are only good a certain amount of days under the brokerage system that we use).

Portfolio Six Updated March 2015 – And It’s Tax Time

Portfolio Six is our newest portfolio, at 3 1/2 years. The beneficiary contributed $1500, the trustee contributed $3000, for a total of $4500. The current value is $4530, for a gain of $30, or 0.7% or 0.3% / year across the life of the fund. You can go here for details or download the spreadsheet at the links on the right.

In 2014 we earned $122 in dividends, for a yield of over 3%. In an era of no interest on deposits, that is very good. We sold one stock in 2014, Yandex, the Russian search engine, for a slight loss at $35. The stock subsequently tumbled down to $14 with the impact of Russian sanctions and the crash of the Russian ruble.

Two of the stocks are oil stocks – Exxon Mobil and Royal Dutch Shell. When oil prices fell from over $100 / barrel to under $50 / barrel (which no one saw coming, at least not the formal analysts) these stocks fell. However, they are both well run companies and pay solid dividends and we plan to hold them for the longer term, unless new adverse events occur.

Two of the other stocks remain under pressure – Coca Cola Femsa, which sells Coca Cola and other beverages in Mexico and Central America, has fallen with the decline in the Mexican Peso vs. the US dollar. Mexico is a good long term growth market but this is on watch. Seaspan, the Chinese shipper, also fell but their very high dividend (7.3%) is still holding up.

Baidu (the Chinese internet company) and Procter and Gamble are both doing well.

Portfolio Five Updated March 2015 – And It’s Tax Time

Portfolio’s Four and Five are both 5 1/2 years old. The beneficiary contributed $3000, the trustee $6000 for a total of $9000. The value is $10,840 for a gain of $1840 or 20%, which works out to about 5.3% / year. You can see the details here or go to the link on the right.

We earned $260 in dividends in 2014, or a yield of approximately 2.6%. During 2014 we sold two stocks – Yandex (the Russian search engine) and China Petroleum. Yandex crashed much further after we sold it and China Petroleum is about the same.

In 2015 we sold Sasol (SSL) during the oil price crash – it is about where we sold the stock at ($35). We have over $1000 to invest so we will buy an additional stock in the spring.

The stocks are mostly doing well – we will keep an eye on Seaspan (SSW) the shipping company with the high dividend (over 7%).

Portfolio Four Updated March 2015 – And It’s Tax Time

Portfolios four and five are both five and a half years old. The beneficiary has invested $3000, the trustee $600, for a total of $9000. The fund value is $11,051 for a gain of $2051 or 22%, which works out to about 5.9% / year across the life of the portfolio. You can see the details here or go to the links on the right side of the page.

The portfolio has many dividend stocks and in 2014 earned $341, or a yield of about 3.2% / year. That is a great yield and helps performance over the long term. There were no stock sales in 2014.

Currently we have a few stocks on watch:

– Nucor (NUE) – the US steel maker downgraded its profit targets since the US is being “flooded” with foreign steel from loss making state owned companies (primarily in China). It is surprising that the stock didn’t fall further with this decline in earnings guidance
– Devon (DVN), Royal Dutch Shell (RDS.B) and Statoil (STO) have all been hit by the crashing price of oil. Also Shell and Statoil are in UK Pounds and Norwegian Kroner and both of these currencies have declined vs. the US dollar, which adds to the difficulties. For now we are holding on to these although they also are on watch
– Coca Cola Femsa is the latin America (Mexico mainly) distributor of Coke. It has been hit by the declining peso like all foreign investments. We will hold but likely put a collar on this stock in case it falls much further. Would be good to have investments in Mexico since it is a rising economy

Portfolio Three Updated March, 2015 – and It’s Tax Time

Portfolio Three is our third longest portfolio, at 7 1/2 years. The beneficiary contributed $4000 and the trustee $8000 for a total of $12,000. The current value is $13,363 for a gain of $1,363 or 11% or 2.4% / year over the life of the fund. You can see the details at the link on the right or download the file here.

Portfolio Three had $213 in dividends in 2014, for a yield of approximately 1.8%. This is a reasonable return given that cash has essentially a zero return in an era of low interest rates. We sold 4 stocks in 2014 and 2 fell much further (Cliffs and CNOOC) while Splunk is mostly the same and Urban Outfitters gained about 20%.

We also sold 2 stocks in early 2015 (Weibo and Anadarko) so we have about $2200 to re-invest and will buy a couple of stocks in the spring.


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