Income Shifting

Benefits of Family Income Shifting

During financial hardship, income shifting can be a great solution to decrease the amount of taxes your family has to pay. In fact, income shifting is a method to limit your taxes on an absolute minimum and your family will surely benefit from a little extra cash in the bank every month. However, you must be aware of your rights and restrictions when applying this method and you should inform yourself thoroughly about what the so-called 'kiddie tax'.

Why Should You Try Income Shifting?

If your tax rate is higher than the usual 15% you can shift your income to other members of your family to save on income tax.  Some people have tax rates of 30 or 40 percent which is often a high amount of money. The 'kiddie tax' enables you to shift some of your income onto your children who are categorised in the 15% tax bracket. This does not mean that you have less income, but this method decreases your Adjusted Gross Income (AGI) and this lowers your tax rate as well.

The 'kiddie tax' can be applied to children under the age of 14 who have more than the set amount of unearned income in the tax year you are in. If you and your partner are in the 28% tax bracket and you want to avoid paying the extra money, you can shift some of it to your 12-year old son Jimmy. Thus, Jimmy falls into the 15% category and pays a much smaller amount in taxes than you as parents would. Income shifting this way is particularly designed for high-income households and the bar was raised in 2006 when the US government allowed shifting to children under 18 years old. This enabled the child to receive $700 tax free, and it enabled parents to save massively on taxes. In the US, income shifting was particularly popular during the Bush administration as the Republican Party often favours the high-income voters in their decision making process. Thus, financial experts believe that this tax will be adjusted or eliminated in 2009 as the Obama administration has introduced many changes to aid the development of the Middle Class.

Many people question income shifting and the kiddie tax because it is unusual that the government aides people to pay fewer taxes. After all, taxes are what the government needs to function and provide services to its citizens.

Thus, it is a little peculiar that filling out a few forms and shifting a little here and there makes it possible to reduce taxes. While this form of income shifting wipes out a large chunk of taxes, the government will benefit sooner or later for letting you do this. As your child grows older and exits the eligible age, he or she will be paying 15% income tax and 10% for capital gains. On top of that, the government will take over half of your assets on the day you pass away if your income has not been transferred properly to your children. Thus, even when your child becomes older you must keep the income shifting alive. A couple can transfer up to $10.000 a year to each child without having to pay gift tax and you should certainly ensure that your child has no access to the bank account until he or she reaches a reasonable age.

So how can you have your cake and eat it too? An option favoured by many is to ensure that the income you shift to your child does not exceed the $1400 limit because the first $700 are free, and the second $700 are classified as the lowest tax bracket.