Kiddie Tax and Custodial Accounts Explained: A CPA's Guide

By Tom, CPA · Updated October 25, 2026

TL;DR: The kiddie tax taxes a child's unearned income above a threshold at the parents' rate. For 2026, the first $1,350 of a child's unearned income is generally covered by the child's standard deduction, the next $1,350 is taxed at the child's rate, and anything above $2,700 is taxed at the parents' rate on Form 8615.

Educational only, not tax, legal, or investment advice. Examples are illustrations, not predictions. Rules and limits change; verify current figures and talk to a qualified professional about your situation.

Your toddler's index fund can get taxed at your rate. Kids are expensive, even on paper. The kiddie tax exists to stop parents from shifting investment income to their children, who would otherwise be taxed at the lowest rates. For FIRE families, it matters for custodial accounts, gifts from grandparents and attempts to use a child's 0% capital gains bracket.

Here's how it works for 2026, using figures from IRS Rev. Proc. 2025-32.

CPA Warning Label: Money in a custodial account belongs to the child, permanently. At the age of majority, they get it, whether or not they've developed an interest in index funds or a sports car.

Who the kiddie tax hits

The kiddie tax generally applies to a child's unearned income (interest, dividends, capital gains, and similar) if the child is:

• Under 18 at the end of the year, or
• 18 at the end of the year and their earned income does not exceed half of their own support, or
• A full-time student age 19 to 23 whose earned income does not exceed half of their own support,

and at least one parent is alive, and the child does not file a joint return. Earned income from a job is never subject to the kiddie tax; it is taxed at the child's own rates.

2026 thresholds

The key 2026 number is $1,350 (IRS Rev. Proc. 2025-32). It is used two ways:

• A dependent child's standard deduction for unearned income is at least $1,350.
• Under section 1(g), unearned income above twice that amount, $2,700, is taxed at the parents' marginal rate.

In practice: the first $1,350 of unearned income is offset by the child's standard deduction, the next $1,350 is taxed at the child's rate (often 10%, or 0% for qualified dividends and long-term gains), and unearned income above $2,700 is taxed as if it were the parents' income, including the parents' capital gains rate.

Form 8615 vs 8814

Form 8615 is filed with the child's own return. It calculates tax on net unearned income at the parents' rates.

Form 8814 lets parents elect to include the child's income on their own return instead, avoiding a separate return for the child. For 2026, the election is available only if the child's gross income is only interest and dividends (including capital gain distributions), and is more than $1,350 but less than $13,500, among other conditions (IRS Rev. Proc. 2025-32).

The 8814 election is simpler but can cost more: it increases the parents' AGI, which can reduce ACA premium tax credits, increase IRMAA, and affect other AGI-based items. For early retirees on marketplace coverage, filing a separate return for the child with Form 8615 often keeps the parents' MAGI lower. However, a dependent child's income can still count in household income for premium tax credits if the child is required to file a return.

Illustration: the parents' 0% bracket

Illustration. Assumptions: early retired married parents filing jointly, 2026, with taxable income of $60,000, so their long-term gains are taxed at 0%. Their 12-year-old has a UTMA account that realizes $6,000 of long-term capital gains and no other income.

• First $1,350: offset by the child's standard deduction.
• Next $1,350: taxed at the child's rate; as long-term gain at low income, 0%.
• Remaining $3,300: taxed at the parents' rate. Since the parents' gains would be in the 0% band, this is also generally 0%, though the calculation adds the child's income to the parents' to find the rate.

For a family in the 0% band, the kiddie tax may cost nothing. For working parents in the 15% capital gains band or the 24% ordinary bracket, the same income could cost real money.

UTMA pros and cons

Uniform Transfers to Minors Act (UTMA) and Uniform Gifts to Minors Act (UGMA) accounts let an adult hold assets for a child.

Pros:

• Flexible: money can be used for anything that benefits the child, not just education.
• The first $2,700 of unearned income each year gets low or zero tax.
• Gifts remove assets from the donor's estate, using the $19,000 annual gift exclusion for 2026 (IRS).

Cons:

• The gift is irrevocable. The child takes control at the state's age of termination, often 18 or 21.
• Unearned income above $2,700 is taxed at the parents' rate.
• Treated as the child's asset for financial aid, which typically reduces aid more than parent-owned assets.

Alternatives include 529 plans (tax-free for qualified education expenses), a custodial Roth IRA if the child has earned income, or simply keeping the money in the parents' names.

Custodial Roth IRAs

A child with earned income, such as from a summer job or a legitimate family business, can contribute to a Roth IRA, up to the smaller of earned income or the annual limit ($7,500 for 2026, per IRS IR-2025-111). A parent or grandparent can fund the contribution as a gift, as long as the child has the earned income. Roth earnings are not subject to the kiddie tax because they are not currently taxed at all, and the child's earned income is taxed at the child's own rates, often zero after the standard deduction.

Paying your own child through your business requires real work at a reasonable wage, with records. Paying a toddler for "modeling" in a family photo shoot is the kind of thing that ends up in tax court opinions.

FAFSA impact

For federal financial aid, assets owned by the student, including custodial accounts, are generally assessed more heavily than parent assets. A 529 plan owned by a parent is treated as a parent asset. Some families spend down or convert custodial accounts (for example, into a custodial 529) before applying, which has its own rules. Investment income realized by a child also counts as student income on the aid formula. Check the current aid formulas with the Department of Education before acting; they changed recently and may change again.

FIRE families with low reported income in early retirement can sometimes qualify for more aid than expected, which makes aid planning part of tax planning.

529 plans as an alternative

529 plans are owned by the parent or another adult, grow tax-deferred, and pay out tax-free for qualified education expenses. Earnings withdrawn for non-qualified purposes are taxed and generally face a 10% additional tax. There is no kiddie tax on 529 growth. For college savings specifically, a 529 is usually more tax-efficient than a UTMA account, and the owner keeps control. Many states also offer a state tax deduction for contributions.

For FIRE parents, the trade-off is flexibility: a UTMA can be spent on anything for the child, while a 529 is designed for education, with limited exceptions.

Gain harvesting in a custodial account

The $2,700 of low-tax unearned income can be used for harvesting. Each year, realize enough long-term gain in the UTMA account to use up the child's low-tax amounts, then rebuy. Over many years, that resets basis with little or no tax. Keep realized income at or below $2,700 if the parents are in a high bracket; if the parents are in the 0% band, the kiddie tax may not matter much at all.

Common mistakes

• Forgetting that the child may need to file a return.
• Using the 8814 election without checking the effect on ACA credits or IRMAA.
• Using UTMA money for ordinary parental obligations like basic support.
• Ignoring the age of termination.
• Giving more than the annual exclusion without filing a gift tax return.

Frugal Fran's kid has a custodial Roth IRA funded with lawn-mowing income. Lavish Larry's kid has a UTMA, a lot of opinions about crypto and a birthday coming up.