Updated
How do custodial accounts use Tax-Gain Harvesting to realize tax-free gains?
Tax-Gain Harvesting (not to be confused with Tax-Loss Harvesting) is a feature we offer for our UGMA/UTMA custodial accounts. It enables beneficiaries—while they qualify under the Kiddie Tax rules as minors or students over 18—to step up their investments’ cost basis federal-tax-free, thereby potentially reducing their future tax burden.
The “Kiddie Tax”
Under IRS rules, a child who earns less than $900 in wages will have their unearned income (dividends, interest, capital gains) taxed as follows:
- First $1,350: Free of federal tax, assuming the child has no earned income.
- Next $1,350 (up to $2,700): Taxed at the child’s individual rate—usually 10% for ordinary income, and 0% for long-term capital gains.
- Above $2,700: Taxed at the parents’ marginal rate, which is usually higher.
Note: The IRS updates these thresholds regularly. Children who earn significant wages will have a different standard deduction. Learn more.
How Tax-Gain Harvesting could lower your child’s future taxes
These rules mean that many children can realize up to $2,700 in long-term capital gains completely free of federal tax. This benefit enables us to use Tax-Gain Harvesting to potentially reduce your child’s future tax burden:
- Each December, we look at how much your child’s custodial account has earned in the current year. Earnings include interest, dividends and net realized gains and losses.
- We subtract that number from the harvesting limit you’ve selected (in your account’s Tax Optimization setting on the Manage page).
- The difference is the amount your child could still earn tax-free or tax-advantaged. We sell shares to maximize available gains up to that difference, and then reinvest the proceeds.
The result is that your child’s investments now have a higher cost basis. This potentially reduces their future capital gains taxes while incurring no taxes (or lower taxes) in the present.
Note: While we will do our best not to exceed your harvesting limit, we may go over it in some cases—for example, if dividends arrive very late in the year. It’s also likely that we don’t harvest gains right up to the limit you set. We will typically leave some “buffer” to avoid unexpectedly going over the limit.
Should I enable Tax-Gain Harvesting in my child’s account?
Tax-Gain Harvesting can be a great move for many custodians—a powerful way to reduce your child’s future federal tax burden. However, this limit applies to the child, not just to one account, so if your child has significant unearned income outside of their Wealthfront custodial account, you may want to disable this feature or reduce the harvesting limit.
Example 1: Child has no other unearned income. Let’s suppose you want to maximize tax-free gains for your child. Because they can receive $1,350 in tax-free unearned income annually, you leave the annual harvesting limit at $1,350. Over the course of the year, their custodial account earns $50 in dividends. At the end of December, we sell enough of your child’s assets to realize $1,300 in gains, and use the proceeds to buy similar assets.
Result: your child’s assets are left with a higher cost basis, reducing their future taxes owed. No federal tax is owed this year, because the sum of their $50 in dividends and $1,300 in realized gains is $1,350. You have maximized the tax-free gains available to your child for the year.
Example 2: Child does have other unearned income. This is the same as the scenario above, except this time, your child earns $50 in dividends from the account you manage and $100 in dividends from a brokerage account created for them by another relative. Because you don’t want to exceed the $1,350 federal-tax-free threshold, you adjust the annual harvesting limit to $1,250. This time, at the end of December, we sell enough of your child’s assets to realize just $1,200 in gains.
This achieves the same result as example 1—maximizing gains without paying taxes. It avoids overshooting the tax threshold by accounting for the $100 in outside dividends.
In fact, if their account balance or other income are high enough, you may want to turn on Tax-Loss Harvesting instead.
Can I use Tax-Loss Harvesting for my custodial account instead?
Yes, though it’s usually not the right choice for custodial accounts. Tax-Loss Harvesting might be a good idea if:
- The beneficiary has unearned income (e.g., dividends or interest) in excess of $2,700.
- The beneficiary earns taxable income (e.g. wages) that can be offset by tax losses.
You can find more information on whether Tax-Loss Harvesting is right for your custodial account by going to your custodial account’s Manage page and selecting “Tax optimization.”
How do I enable Tax-Gain Harvesting?
It’s enabled by default for custodial accounts, with a default annual harvesting limit set to the standard deduction for unearned income (currently $1,350). You can modify or disable it in your custodial account’s manage page by selecting “Tax optimization”.
Investment management and advisory services are provided by Wealthfront Advisers LLC (“Wealthfront Advisers”), an SEC-registered investment adviser, and brokerage related products are provided by Wealthfront Brokerage LLC ("Wealthfront Brokerage"), a Member of FINRA/SIPC. Financial planning tools are provided by Wealthfront Software LLC (“Wealthfront Software”).
The information contained in this communication is provided for general informational purposes only, and should not be construed as investment or tax advice. Nothing in this communication should be construed as a solicitation or offer, or recommendation, to buy or sell any security.
Wealthfront Advisers and its affiliates do not provide legal or tax advice and do not assume any liability for the tax consequences of any client transaction. Clients should consult with their personal tax advisors regarding the tax consequences of investing with Wealthfront Advisers and engaging in these tax strategies, based on their particular circumstances. Clients and their personal tax advisors are responsible for how the transactions conducted in an account are reported to the IRS or any other taxing authority on the investor’s personal tax returns. Wealthfront Advisers assumes no responsibility for the tax consequences to any investor of any transaction.
Custodial accounts (UGMA/UTMA) come with significant limitations. Contributions to a custodial account are irrevocable gifts, meaning once assets are moved into these accounts, they belong to the beneficiary and cannot be reclaimed by the donor for any reason. You also can't rename the beneficiary or use the assets for another person. Custodians have a fiduciary duty to use funds exclusively for the beneficiary's benefit. Legal control of the assets automatically transfers to the beneficiary upon reaching the age of termination (typically 18 to 25, depending on the state), at which point they may use the funds for any purpose, regardless of the custodian’s original intent. These accounts can also negatively impact financial aid eligibility because the assets are owned by the beneficiary. They are weighted more heavily than parental assets in financial aid formulas, which may significantly reduce eligibility for need-based financial aid.
From a tax perspective, Custodial accounts are not tax-deferred; they are subject to "Kiddie Tax" on unearned income above certain thresholds. For the 2026 tax year, the first $1,350 of a child's unearned income is tax-free, the next $1,350 is taxed at the child's marginal rate, and any amount over $2,700 is taxed at the parents' marginal rate. Contributions must adhere to federal gift tax rules ($19,000 for individuals or $38,000 for a married couple in 2026). Any contributions over the gift tax exclusion may be subject to gift tax. Keep in mind, these figures can change. Wealthfront Advisers and affiliates do not provide legal or tax advice and are not liable for tax consequences of client transactions. Please consult a personal tax advisor regarding your individual situation.
Tax-Gain Harvesting is intended to help a beneficiary utilize the 0% federal long-term capital gains tax rate available under the Kiddie Tax rules to potentially reduce future federal tax liability. The effectiveness of this strategy is entirely dependent on the beneficiary’s total unearned income for the tax year (this includes any unearned income outside of Wealthfront) and their current qualification under the Kiddie Tax rules (age, any earned income, and student status). For the 2026 tax year, the first $1,350 of unearned income is tax free due to the beneficiary’s standard deduction. Amounts exceeding applicable thresholds may require a federal tax filing or other tax reporting (in some cases, it can be included on the parents’ tax return). The next $1,350 of unearned income may be taxed at the beneficiary’s own rate (this will also depend on if it’s long-term capital gains and how much other income the beneficiary may have). Any unearned income above $2,700 is taxed at the parents’ marginal tax rate. The benefit achieved may be limited or eliminated by a client’s specific tax situation. While the strategy aims to realize gains federal-tax-free, state and local taxes may still apply. The transaction, which involves selling and immediately reinvesting, may result in gains exceeding the client’s selected harvesting limit due to market volatility or late-arriving dividends. Wealthfront Advisers does not provide tax advice. Consult a tax professional for your specific situation.
Tax-Loss Harvesting benefits vary depending on the client's entire tax and investment profile. The performance of new securities purchased may be better or worse than those sold. The strategy could introduce portfolio tracking error, meaning the portfolio's performance might slightly diverge from its intended benchmark. There may also be unintended tax implications. Wealthfront does not provide tax advice. Consult a tax professional for your specific situation.
All investing involves risk, including the possible loss of money you invest, and past performance does not guarantee future performance. Please see our Full Disclosure for important details.
Wealthfront Advisers, Wealthfront Brokerage, and Wealthfront Software are wholly-owned subsidiaries of Wealthfront Corporation.
© 2026 Wealthfront Corporation. All rights reserved.
Comments are moderated prior to publication