Do kids have to pay taxes on the interest of certificates of deposit?

[Dan S]

The law states that, "A person has to pay income tax on all income world wide."

This includes Certificates of Deposit.

If you put the money into a CD in her name with the condition that it cannot be paid out until your daughter turns 18, and is an adult then the taxes are her problem. Since she is making a lot less money than her parents (you) she will have to pay the income tax at HER rate of income. This is a good and valid tax shelter. Especially since she can use the money to help pay for the taxes. Just calculate the taxes and have her pay them first. The IRS will accept their tax money at any time. The problem is if she is still your dependent (say you are putting her through college), they the tax is your responsibility. So you need to include a statement that this money is meant for her exclusive use to apply as she sees fit. With the addition of that statement then the taxes become her responsibility.

Texas has a program that you can pay into now to help pay for a child's college education. That program is tax sheltered, and you can add money to the program. As you know the high price of education requires you to start saving almost at the child's birth. Check to see if your state or city has a similar plan.

The best plan is to talk with the Banker and tell them what you are trying to do. They can give you good advice, it’s their job, and they should do it for free. You can talk with a Financial Planner, but he will charge you for pretty much the same advice. The Banker has their bank’s interest at stake in your decision, since their bank will profit if you use one of their financial products. They will also have a range of plans that you can use to help your daughter.

I applaud your thoughts in this. A savings account is a poor long-term investment. If you are willing to hold the money in another account (like a CD) until she is 18 that is an excellent idea. The longer you hold the money with the bank the more it will earn. DO NOT set up an IRA for her with this money. She can access that money, but if she does so before she is 55 then she “will have to pay a substantial interest penalty” (That’s a quote from an IRS publication on IRA accounts).

If the banker won’t help you, or if you don’t like their advice then try a better bank. DO NOT put the money into a mutual plan. A Yahoo news article by a financial advisor said that the trading fees really cut into the fund’s value and it would be better to do your own stock trading. I don’t advise that though, this money is too important for her and for her college fund. The stock market is a better investment then gambling at Las Vegas, but you use the same rule; only bet the money you are prepared to loose.

A five-year CD could be an excellent decision, if you put it in your daughter’s name, with her Social Security Number, then she should have to pay the taxes, based on the tax rate for her income when she gets the money, at age 18; which will be the lowest tax rate. Talk with a banker and tell them your plans. They will want to help you and will have the best advice.