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

[fradertoadie]

I don't know much about cd's except that they earn better interest than savings accounts. My 13 year old daughter received a settlement for a dog bite that she suffered.
It is court ordered that it be placed into a trust or account of some sort that cannot be touched by anyone. She gets it when she turns 18.
Right now it is in a savings account but I want to change it to a cd so she can earn better interest. Someone told me that as her parents, we would have to pay taxes on the interest. That makes no sense since we do not benefit from this money. Do we have to pay it or does she have to pay it later?

[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.

[Mel]

whomever has the account (SS#) registered to them will pay the tax. If it's sent to her, but she has no job, she would pay nothing. If it's registerd under your SS#, you do.
But when she starts working, it will be added to her income.

[lambdapicchick]

If that CD has your name on it then you have to pay taxes on the money earned on it over the year. However, if this is money that is trusted to her, if you keep it in a trust account as the CD, you should be okay. Also, making her the main account holder with you as the parental. As long as she keeps the CD as a trust, and has no job, she should not have to pay taxes on it either. Once she removes the money from the CD she will have to pay tax on it.

[JQT]

A dependent's standard deduction is $800 per year in interest. If she start having earned income i.e. from baby sitting, tips, then her deductable will become the greater value of either $800 or her earned income plus $250. If you can keep it below that and in her name, you wouldn't have to pay tax.

If her gross income exceed the limit as described above, and since she is still a dependent on your tax return you will have to pay the tax.

[Mathew]

Any answer you have gotten or will get, given the information that you have provided is only speculation at best. If you are talking about a great deal of money you should seek advise from a tax professional and a attorney familiar with trusts. If the money is in a trust neither you nor your daughter pay tax on the interest but the trust most likely will. If the money is not in a trust either you or she could be facing paying tax at your marginal rate. If that is the case you may want to seek financial advise regarding tax deferred vehicles that will allow her to deal with the tax later when she is a starving artist or college student. The bottom line is that none of us in this forum will be able to give you good advise with out a great deal more information.

[TaxGuru]

The rules you need to know are at

http://www.irs.gov/publications/p929/ar02.html#d0e2009

In a nutshell, if she is under 14 at the end of the year, then part of her income may be taxed at her parent's tax rate. Under certain circumstances, her parents can choose to include her income on their tax return rather than filing a separate return for her.

Once she reaches 14, these rules no longer apply, and a tax return must be filed reporting her income. The tax will not be computed at her parent's rates.

You should consult a professional tax preparer for help with these rules.

PS if it's a lot of money, you should also consult a professional investment advisor. There are better ways to invest than in CDs.