Watch Out for the '66% Penalty Tax' Trap

⚠️ The $416 Tax Trap: Under Australian tax law (Division 6AA), minors are NOT taxed like adults. The first $416 of "unearned income" (dividends/interest) is tax-free. However, every dollar above that is taxed at a punitive rate of 66%.

👶 "It's for Their Future Education"

You want to build a nest egg for your child. You think: "If I buy Apple or BHP shares in my own name, I have to pay tax at my marginal rate (maybe 37% or 45%). But my 5-year-old daughter has zero income. If I buy it in her name, the tax will be zero!"

It sounds logical. But the Australian Taxation Office (ATO) is one step ahead.

To prevent wealthy parents from minimizing tax by hiding assets in their children's names, Australia enforces strict "Penalty Tax Rates" for minors.

"Unearned Income"

The ATO distinguishes between income a child works for (like a part-time job at Maccas) and income that is passive (dividends, bank interest).

Watch Out for the '66% Penalty Tax' Trap

🔍 Two Different Tax Worlds

• Earned Income (Job): Taxed at normal adult rates. The first ~$18,200 is tax-free. (This is fine).
• Unearned Income (Investments): Taxed at penalty rates once it exceeds $416 per year. (This is the trap).

"66% Tax?!"

Let's see what happens if your child's portfolio does well and earns $1,500 in dividends this year.

Unearned Income Amount	Tax Rate for Minors
$0 – $416	0% (Tax Free)
$417 – $1,307	66% on the excess (Yes, sixty-six percent)
Over $1,307	45% on the entire amount

Verdict: You tried to save tax, but you ended up paying a higher rate than the top marginal tax bracket for adults.

"Investment Bonds"

So, how do smart parents invest for their kids without the tax hit? The most popular vehicle is an Investment Bond (also known as an Insurance Bond).

• Internal Tax: The bond provider pays the tax internally at a capped rate of 30%. This is much lower than the 66% penalty.
• 10-Year Rule: If you hold the bond for 10 years, the final withdrawal is 100% Tax-Free (Capital Gains Tax exempt).
• The 125% Rule: Be careful—you cannot contribute more than 125% of the previous year's contribution, or the 10-year clock resets.
• Control: You (the parent) own the bond. You can transfer it to the child tax-free when they turn 18 or 25. If they go off the rails, you keep the money.

Chief Editor’s Verdict

Opening a CommSec or Vanguard account directly in your child's name is easy, but the tax headache is real. Unless the investment is very small (earning less than $416/year), it is often a mistake.

For long-term education funds, consider an Investment Bond or a Discretionary Family Trust. Structure matters more than stock picking.

[General Advice Warning & Legal Disclaimer]
This article provides general information only and does not constitute personal financial advice. The "Penalty Rates for Minors" (Division 6AA of the ITAA 1936) are complex and subject to change. Exceptions apply for inherited assets or compensation payments. Always consult with a qualified Tax Accountant or Financial Adviser before investing in a child's name.