Do Children Need To File A Tax Return To Fund Their Roth IRA? (2020)

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Roth IRAs are amazing tax saving tools. Roth IRAs allow investors to grow their money tax-free. Even though there is no deduction for contributions, a Roth IRA provides the dual benefits of tax-free accumulation and tax-free distributions after age 59 1/2. The long-term benefits can be significant.

Funding your Roth IRA is usually one of the best financial decisions you can make. Roth funding puts your money where it will never be taxed again during your lifetime. Those benefits are just extended the younger you are.

Contributions to a Roth IRA are always made with after-tax dollars, so you don’t get a tax deduction for contributing. However, since children rarely earn enough to have to pay taxes, it is nearly always better for them to fund a Roth IRA rather than a traditional IRA. And since contributions can later be withdrawn, they should even fund their Roth IRA if they plan on using the money for something else.

Unlike a 401(k) plan, which requires salary deferrals in order to fund, you or anyone else can fund a Roth IRA with any money. The child can contribute. Parents can contribute. Grandparents can contribute. A random friend can contribute. The only hitch is that you are limited in how much you can contribute up to the child’s earned income or this year’s IRA contribution limit, whichever is smaller.

If you want to maximize the amount that is put in while still giving the child a choice, one clever suggestion is that you or a grandparent could offer a Roth contribution match as a gift. For example, every dollar the child contributes, you promise to also contribute one dollar. In this way, the child can save half of all their earnings as spending money while still getting the full allowable amount into their Roth IRA to grow tax-free. This also provides early exposure to a real conversation they will have later in life when they are offered an employer match and asked how much they want to contribute to their 401(k) plan.

Many parents worry though that they will need to endure the hassle of filing a tax return in order to fund their child’s Roth IRA and ask, “Do Children Need To File A Tax Return To Fund Their Roth IRA?”

Luckily, you can make a Roth IRA contribution without filing a tax return and do not need to file a tax return to make a Roth IRA contribution.

So knowing that Roth IRA funding is not a factor, the question still stands: Do you need to file a tax return for your child for other reasons?

First, there are several cases where you will want to file regardless of if you have to file because you might be able to get money back. As Publication 501 “Dependents, Standard Deduction, and Filing Information” makes clear:

Even if you don’t have to file, you should file a tax return if you can get money back. For example, you should file if one of the following applies.

  • You had income tax withheld from your pay.
  • You made estimated tax payments for the year or had any of your overpayment for last year applied to this year’s estimated tax.
  • You qualify for the earned income credit. See Pub. 596 for more information.
  • You qualify for the additional child tax credit. See the Instructions for Form 1040 and 1040-SR for more information.
  • You qualify for the refundable American opportunity education credit. See Form 8863.
  • You qualify for the health coverage tax credit. For information on this credit, see Form 8885.
  • You qualify for the credit for federal tax on fuels. See Form 4136.

This list likely does not have anything your child can take advantage of, but it is good to review. Taking a closer look at these one at a time:

Most child household employees or self-employed contractors will not have withholding or estimated payments, but if they are working for a traditional employer your child might have tax withholding and you’ll want to file in order to get any refunds the child is owed.

A requirement of the earned income credit is that “You cannot be a qualifying child of another person.” This means that if you (the parent) are filing for the child tax credit, the child won’t be able to get this earned income credit.

Your minor likely does not have a child of their own, so the child tax credit is not relevant.

The refundable American opportunity education credit is for those in college.

You are not eligible for the health coverage tax credit if you can be claimed as a dependent on another person’s federal income tax return.

And your minor likely does not qualify for the alternative fuel credit.

Beyond these reasons, there are also several rules to help determine if you need to file.

Elsewhere, Publication 501 states:

A person who is a dependent may still have to file a return. It depends on his or her earned income, unearned income, and gross income. For details, see Table 2. A dependent must also file if one of the situations described in Table 3 applies.

The referenced Table 3 is “Other Situations When You Must File a Return” which states, “If any of the seven conditions listed below applied to you for 2019, you must file a return.” The ones that are worth addressing for minors include:

1. You owe any special taxes, including any of the following.
… c. Social security or Medicare tax on tips you didn’t report to your employer (see Pub. 531) or on wages you received from an employer who didn’t withhold these taxes (see Form 8919).
…e. Household employment taxes. But if you are filing a return only because you owe these taxes, you can file Schedule H (Form 1040 or 1040-SR) by itself.
…3. You had net earnings from self-employment of at least $400. (See Schedule SE (Form 1040 or 1040-SR) and its instructions.)

Wages earned from their parent employer to an under-age-18 child employee are not subject to the FICA taxes of Social Security and Medicare. However, if household wages from a non-parent or to an older child are $2,100 or more during the year, then FICA taxes are necessary. Thus, reason 1(c) would not apply to a parent-employed household-employee child but may apply if your child is either older or working for other households. If your child is working for a traditional employer, then their employer will withhold the FICA taxes of Social Security and Medicare themselves and thus your child won’t need to report them on their tax return. For this reason, 1(c) is unlikely to apply.

Reason 1(e) of household employment taxes is a red herring I thought was worth addressing. Household employment taxes are for an employer who is trying to pay and report FICA taxes for their employees. Your minor does not need to file this (they are an employee) and you likely do not need to file Schedule H if you are employing your own child because parents are usually exempt from FICA.

Reason 3 may apply to some children employees. A household employee is not self-employed and thus will not apply in this case. However, an independent contractor is self-employed. Most children under the age of 14 are not self-employed independent contractors as child labor laws prevent them from being employed by people other than their parents. However, there do exist several minors whose income does come from self-employment. If your child is one of them, then the earned income limit is based on the Schedule SE exempted limit, currently $400.

In addition to those reasons listed in Table 3, the referenced Table 2 also contains rules for when a tax return is necessary. As it says for those who are not blind in tax year 2019:

You must file a return if any of the following apply.

  • Your unearned income was more than $1,100.
  • Your earned income was more than $12,200.
  • Your gross income was more than the larger of—
    • $1,100, or
    • Your earned income (up to $11,850) plus $350.

The $12,200 earned-income-only limit comes from the standard deduction. The idea is that the child will not owe tax if their taxable income is less than the standard deduction, so you need not file a tax return.

The $1,100 limit for unearned income is from the so-called kiddie tax or Form 8615 “Tax for Certain Children Who Have Unearned Income.” Because unearned income may be taxed at the parent’s tax rates if it is over $1,100, you must file the child’s tax return and the child must also include Form 8615 if unearned income exceeds this limit.

For those children with both earned and unearned income, the limit is the larger of the kiddie tax limit or the child’s earned income limit plus $350. In this way, your child is permitted either $1,100 in unearned income or, if your child earned more than $750, then you are permitted $350 in unearned income without having to file.

In this way, most household employee minors, which is likely most children with earned income under the age of 14, will likely not need to file. However, there are a few who are some combination of high earnings, older age, self-employed, or heavily invested who will need to file.

Saving for retirement can never start too early and a Roth account is a great vehicle for those savings. Don’t let stress about tax filing requirements keep you or your child from a powerful opportunity to provide for their future.

Photo by Rachel on Unsplash

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Chief Operating Officer, APMA®

Megan Russell has worked with Marotta Wealth Management most of her life. She loves to find ways to make the complexities of financial planning accessible to everyone. Her most popular post: The Complete Guide to Your Washing Machine