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Senate, House start to chip away at ‘kiddie tax’ hike

Increase for low-income children was an unintended consequence of 2017 tax overhaul

Sen. Bill Cassidy, R-La., is leading the Senate effort to repeal the “kiddie tax” increase for military survivors in Gold Star families. (Tom Williams/CQ Roll Call file photo)
Sen. Bill Cassidy, R-La., is leading the Senate effort to repeal the “kiddie tax” increase for military survivors in Gold Star families. (Tom Williams/CQ Roll Call file photo)

Both chambers are moving to reverse tax law changes that unintentionally subjected investment earnings of low-income children to the same tax rates paid by wealthier households.

The House, which under the Constitution must originate revenue bills, plans to act later this week on a broader retirement savings bill that would eliminate the full set of changes to the so-called kiddie tax made by Republicans in the 2017 tax overhaul.

But that didn’t stop the Senate from making its views known on the topic, passing legislation Tuesday that would repeal the tax change for military survivors in Gold Star families.

“This bipartisan legislation is one step closer to helping those who lost a father or mother serving in the military to protect our freedom,” Louisiana Republican Bill Cassidy, the Senate bill’s author, said in a statement.

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Changes made to the kiddie tax by the 2017 law led to treating children’s unearned income, such as capital gains, dividends and interest, the same way trust and estate income is treated, which can be taxed at much higher rates. Besides the child survivors of parents killed in action, the unintended rate — which can reach nearly 41 percent when combined with a separate unearned income tax imposed by the 2010 health care law — hit low-income students receiving scholarships, child survivors of first responders and others.

Republicans who drafted the provisions intended to simplify a complicated kiddie tax calculation, while also closing a loophole enabling wealthy families to avoid taxes by transferring securities to their children through trusts. But the effect was to subject any investment earnings above $12,500 in 2018 to the highest marginal tax rate under the law — 37 percent — which normally applies to income greater than $500,000 for individuals and heads of households. In addition, the 3.8 percent net investment income tax under the 2010 health care law kicks in at the same $12,500 threshold, though slightly higher for long-term capital gains and dividends subject to preferential tax rates.

Under previous law, the unearned income of children would be taxed at whatever marginal tax rate their parents paid. So the effect of Cassidy’s bill in the Senate would be to reduce the top kiddie tax rate paid by Gold Star children to what their surviving parent would face, which could be as low as 12 percent for head of household filers with less than $51,800 in 2018 income.

The Senate action follows House Ways and Means Chairman Richard E. Neal’s announcement late Monday that the kiddie tax changes from the 2017 law would be entirely repealed in his retirement savings bill, which is expected to come to the House floor Thursday.

The Massachusetts Democrat had announced an amendment to the bill last week that would remove children from Gold Star families from having their benefits taxed at higher trust or estate rates.

But the amendment neglected some groups, including surviving children of first responders, so Neal offered an amendment Monday at the House Rules Committee “repealing the entire provision outright.” The committee adopted the change, and the Neal amendment will be incorporated into the underlying bill upon adoption of the rule for floor debate.

“This provision affects the financial security of children of our fallen troops, children of first responders who gave their lives in the line of duty, children who receive payments from tribal governments, college scholarships recipients and potentially many more sympathetic cases that we’re attempting still to discover,” Neal said Monday.

Final action will likely have to go through House-Senate negotiations on the broader retirement legislation, however, on which the timing remains unclear.

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