Tax question - kids' assets have declined

Paying for College
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<p>When our kids were young, we set up UGMA accounts for each of them which grew in value every year. And every year, though they never tapped them, they (we) paid tax on the "earnings" of those accounts.</p>

<p>As you can imagine, their accounts declined drastically in value in 2008 so they have a loss to report instead of income. If I reported a loss in my investments, it would help to reduce my taxable income. But since they have no other income but these UGMAs, they owe no other tax - I presume their loss wouldn't be getting them money back from the IRS.</p>

<p>Let's say that their original $10,000 grew over the years to $50,000. They paid tax on that $40,000 paper gain - if we assume 25%, that'd be $10,000 in taxes. Now that the $50,000 value is down to $35,000 they'll pay no tax, but is there any way for them to get back the tax they paid on the $15,000 that has disappeared? Logic would suggest that they're entitled to get back the $3750 they paid for the value they never claimed that's no longer there - right?</p>

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<p>I'm confused on how they paid tax on paper gains? Capital gains are only taxed when realized. If you invested $10K in individual stocks and it grew to $50K but you never sold anything, there's no tax due. If you invested $10K in mutual funds and it grew to $50K, you would have paid tax on any dividends and capital gains realized by the mutual funds (this appears on the 1099 you get every year and is reported as a dividend), but again this is only on what the mutual fund realized during the course of their buying and selling stocks, and would be much smaller than the unrealized gain on the total investment.</p>

<p>But to answer your original question, long term capital losses are limited to $3000/year, with any additional loss carried forward to the next tax year. Capital losses in children's accounts cannot be reported on the parents' tax return. </p>

<p>
[quote]

There's a rule that allows parents to report the income of a child on their tax return in certain circumstances, but this option is available only when all the child's income is from interest and dividends. If your child has capital gains or losses, all the child's income (including interest and dividends) must be reported on a separate tax return for the child.</p>

<p>You can't get around this rule by transferring the shares from the UTMA account to your own account before making a sale. Even if the transfer is allowed, you won't be permitted to claim the loss when you sell the shares.</p>

<p>You just have to face up to the fact that any tax benefit from this loss belongs to the child. So what happens if the child doesn't have enough income to use the loss?</p>

<p>Many people are aware that a capital loss in excess of the $3,000 capital loss limitation can be carried over to the following year. They may not realize that it is also generally possible to carry over a loss that is unused because of insufficient income. For example, if your child has a $2,000 capital loss and only $500 of income from all sources, the loss will carry over to the next year. The amount that carries over will be the full $2,000, not just $1,500. That's because the child's standard deduction eliminates the $500 of income before you use any of the capital loss.</p>

<pre><code>When you fill out the child's tax return, it may look as if the capital loss, or part of it, is going to disappear without producing any tax benefit. That generally isn't the case. To see this, you have to follow instructions precisely, both on the tax return and on the capital loss worksheet that's used to figure the amount of capital loss that carries over.

[/quote]

</code></pre>

<p>Capital</a> Losses for Minors</p>

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<p>Thanks vballmom - that's exactly what I was wondering. I was misspeaking when I called the UGMA capital gains paper losses, but that's in effect what they seem like since my son is 14 now and won't gain access to them for another four years.</p>