Employing your children in your business provides two main benefits:
- You pay less in taxes
- Your children learn valuable skills
Employing your children in your business is not only legal, it is also actively encouraged by the tax code. However, the key to this deduction is proper documentation and a reasonable wage.
In this article, we’ll explain how you can receive a tax break by employing your children in your business.
Potential Tax Savings
Suppose you have a 10-year-old child who performed odd jobs for your business throughout the year. Let’s also assume you paid them a reasonable wage of $8K and are in the 35% tax bracket.
In this example, you would receive an $8K deduction, which would save you $2,800 on your tax return. Plus, your child will not have to pay any income taxes since they were paid under the standard deduction amount of $13,850.
You were probably going to give this money to your child or contribute it to their college fund. So why not get a tax deduction for it?
What is a Reasonable Wage?
A reasonable wage is defined as the amount you would pay someone else for doing the same work. So don’t try to get cute by paying your children a thousand dollars for two hours of cleaning. That’s how you get in trouble.
Ideally, you want to pay your children up to their standard deduction amount to maximize your tax savings. However, no matter how much you can pay your children, this deduction is too easy not to take advantage of.
4 Benefits of Employing Your Children
1. Children Learn About Business
Working in the family business provides a great educational opportunity for your children. Whether or not they take over the business when you retire, they will learn valuable skills that will benefit them for the rest of their lives.
2. Save for College
After paying your children for their services, you can move the money to a savings account earmarked for paying for college. The key is that this savings account has to be in your child’s name, and they have to be able to access the funds.
In our tax savings example, you can pay $8k to your child, who contributes to their college fund while also saving $2,800 in taxes.
However, if you did not pay your child through your business, you would have to earn $12,307 before taxes to contribute the same $8k to their college fund. So, including the deduction, you are losing $7,107 by not employing your children!
Remember, the earlier you start employing your children, the more tax breaks you will get for paying for their college.
3. Money Management Skills
Paying your kids will allow them to learn sound money management skills. They will learn the amount of work it takes to earn spendable money. They will also learn pretty quickly not to spend all of their money right away so they can budget for the things they really want.
4. Keep the Money in the Family
The rich have been doing this for generations. Why pay someone else when you can pay your children to do the same work? Not only will this help keep the money in the family, but it will also help train someone to take over the business after you retire.
What Jobs Can Your Children Do?
The types of jobs your children can do depends on how old they are and what kind of business you are in. Start by giving them simple tasks that will help save you time, and slowly start giving them more complex tasks as they gain experience. Some popular jobs for children are:
- Organizing and filing
- Cleaning the office
- Email correspondence
- Picking up supplies
- Working in excel
- Helping on job sites
Please note that paying your children for household chores unrelated to your business are NOT deductible.
How to Document Everything
First off, you can pay your child as either a contractor or an employee. If your child is under the age of 18, your business will not have to pay any social security or Medicare taxes for their ages. Just be sure to report their wages to the IRS before the required deadlines.
Additionally, you need to keep a timesheet and a work log of the tasks your children completed. This part is critical. In the event of an IRS audit, if you do not have this documentation, the IRS will disallow the deduction and slap you with fines and penalties.
Employing your children in your business is a super simple way to save money that you can begin implementing today. Not only will you get to keep more of your hard-earned money, but your kids will also learn valuable business skills that will benefit them for the rest of their lives.
At Windstone Financial, we specialize in helping small business owners grow their companies and pay less in taxes. If you want to create a strategy to permanently lower your taxes, click the button below to speak with a CPA today!