Hiring your kid to work for your business can be a rewarding learning experience for both of you.
And it can come with big tax savings! You may have heard that S-Corporation owners and their kids can’t take advantage of this setup, but in today’s post, I’ll show you how they can.
How does hiring my kid save me tax money?
The way this works is your business deducts the wages your kid earns from the taxable income reported on the yearly business tax return. This deduction lowers the business’ taxable income, which reduces the business’ tax liability. This tax-saving strategy can save you several thousand dollars each year!
Will my child have to pay taxes?
If you say “yes” to all 4 of these statements, then your child most likely won’t need to file a tax return and won’t have to pay income taxes:
- Your child is under the age of 18.
- Your child is working part-time for a parent in a family-owned business.
- Your child is making less than the standard deduction.
- Your business is a sole proprietorship, a spousal partnership, or a limited liability company (LLC) that has elected to be treated as a sole proprietorship or spousal partnership.
What happens if my child earns more than the standard deduction?
If your child earns more than the standard deduction for the year, which is $13,850 in 2023, then they will file a tax return and pay income taxes. However, they will most likely be in a much lower tax bracket than you are, so they will pay much less to Uncle Sam than you would if that money were left with your business or paid to a non-child employee.
Can I hire my child if I own an S-Corporation or C-Corporation?
If your business is a sole proprietorship, a spousal partnership, or a limited liability company (LLC) that has elected to be treated as a sole proprietorship or spousal partnership, then you can pay your kid directly through your business and your kid won’t pay Social Security and Medicare (FICA) taxes or federal unemployment (FUTA) taxes on their wages. Even if your kid is between the ages of 18 and 21 and therefore pays FICA taxes, they still won’t pay FUTA tax.
On the other hand, if your business is an S-Corporation or C-Corporation, you can still hire your child and take advantage of these tax perks, but you’ll need to go through the extra step of creating a family management company (FMC) to pay your kid.
This is because corporations withhold employment taxes for all employees–even the owner’s child–and the easiest way to avoid this is by creating a separate company that runs as a sole proprietorship or LLC.
What is a family management company?
Basically, a FMC is a business that your company uses to hire and pay your child. The FMC you create will charge your corporation a fee that will be used to pay your child. This is how you can avoid the FICA and FUTA taxes on your child’s wages.
How do I create a family management company?
Luckily, creating an FMC is actually much easier than it might sound! You can get it done in 3 easy steps:
- Register your new FMC as a sole proprietorship or LLC with your state.
- Apply for an employer identification number (EIN).
- Set up a business bank account.
What rules do I need to follow in order to hire my kid?
There are some simple steps you’ll need to take in order to make sure you’re not breaking any rules related to employment and taxes:
- Create a job description that clearly outlines the services your child will be performing.
- Determine reasonable compensation for those services.
- Ensure that the services being performed are appropriate for the age and skill set of your child (usually 7 is the minimum age you’ll want to employ).
- Complete a Form W-4 and a Form I-9 like you would for any other employee.
- Complete any applicable forms or tasks related to your state’s worker’s compensation and unemployment insurance requirements.
- Keep records of when your child worked, how long they worked, and what services they provided.
What jobs can my child do for my business?
There are many jobs children can do for a parent’s business:
- Clean and organize offices, stores, paperwork
- Create content for websites, mailings, brochures
- Data entry
- Fulfill orders
- Make deliveries and run business-related errands
- Model for advertisements
- Photograph products
- Place orders
- Post on business’ social media accounts
- Research products and purchases
- Stock shelves
- Test products
- Update website content
What should my child do with their income?
Well, this may not be what they want to do with their money, but what your child should do with up to $6,000 they make each year is put it into a Roth IRA and let it grow tax-free. Note that this can only be done if your child is paid as a W-2 employee and not an independent contractor.
Your child should also set up a bank account in their name with you as the guardian so that you can directly deposit their earnings into their bank account. And, if you like the idea of your kids saving for college with their earnings, help them set up and contribute to a 529 plan.
Hiring your kid is a win-win-win for you, your business, and your family. As long as you make sure to follow the tax laws and keep proper documentation, you and your child can save big money in taxes while working together to get the job done.