Hiring Your Children and Taxes

Hiring your children is a great way to teach work ethics, skills, and good money management habits. When handled properly, placing children on your payroll can lead to tax benefits.

Hiring Children: Tax Rules

The opportunity for tax exmeptionsgreat, but the rules are plenty. Understanding these tax rules will help you achieve the maximum tax advantage.

The tax rules are different based upon two things:

• Your child’s age
• The tax entity structure of your business

Hiring Children: Tax Rules for S-Corps

If your child is under age 18, asole proprietor business — including rental income properties and farmers — can pay a child without payroll taxes (FICA taxes: Social Security and Medicare). Income tax withholding still applies. A 1099 or W-2 is still required and the parent’s business can deduct the expense.

Note that a 1099 indicates your child is a subcontractor and subject to self-employment taxes. Therefore, it is best to hire your minor child as an employee.

Hiring Children Tax Rules for LLCs

An LLC comes with the same tax advantages as an S-Corp (no payroll tax), provided the LLC is a disregarded entity for tax purposes. Generally, if the business income and expenses are recorded on the personal tax return the tax advantages of hiring your child apply.

An LLC electing to be treated as either a C-corporation or S-corporation are regarded entities. In these instances, a W-2 is required for the child and standard payroll taxes apply. This is because the child is yours, not the entities.

Partnerships with only the parents as partners also get the same tax advantage as a sole proprietorship. If the partnership has a non-parent partner, wages to your child will require a W-2 where the payroll tax applies.

Work Duties of the Child: Payroll for Family Members

There must be a real employment situation for a business owner to deduct wages paid to a minor child of the owner. Your two-year old child doesn’t qualify as the company accountant, for example.

Still, there are times your two-year-old child could reasonably be on your payroll. For example, if you are the owner of a children’s clothing company and hire your young child to model the clothes.

Farmers live in the sweet spot. Putting the kids to work feeding calves, cleaning barns, or milking cows often starts at an early age. Wages paid to minor children do not require payroll tax withholding as long as the business is not a corporation. This is a massive tax savings for family farms.

The road can be wide. Your two-year-old child can get a wage under certain circumstances. If you have a children’s clothing company, it is reasonable that you would need children to model the clothes. Your child can be that model.

The important point here is that the child must earn the wage. Cleaning offices can be a reasonable job for your children. Facts and circumstances always prevail. The best guideline: Would you hire someone else to do the same job if your child were not available and at the same pay rate?

The wage needs to be reasonable. Wages paid to your minor child must be the same as an unrelated employee.

Managing Family Business Taxes: Tax Deduction Details

Before we review the tax exemptions that come with hiring family members, we need to clarify tax rules.

There are two important things to consider here:

• Payroll tax
• Unemployment insurance

FICA Taxes for Family Business 

The payroll tax is called FICA. This is the flat tax withheld from an employee’s paycheck. The employer pays the same amount. The payroll tax is 15.3% in total; half paid by the employee and half by the employer.

In short, the employee and employer each pay an equal amount of payroll tax. When the payroll tax doesn’t apply to the child, it doesn’t apply to the business either.

The Social Security portion of this tax has an upper limit that is unlikely to apply when hiring a child.

Unemployment Taxes for Family Business

Unemployment insurance is determined at the state level. Many factors come into play. The employer pays 100% of unemployment insurance. There is also federal unemployment insurance (FUTA).

If the parents are the only owners of a Sole proprietorships and partnerships, they receive the tax breaks listed above.. LLCs taxed the same also get the same treatment. Cleaning apartments and helping with maintenance on income properties also applies as long as the activity is not taxed as a C- or S-corporation, or a partnership with a non-parent owner.

Your child can earn up to the standard deduction ($14,600 in 2024) with all income in the 0% tax bracket. Your business still gets the deduction.

Once your child reaches 18 you are required to withhold the payroll tax and income tax withholding, if applicable. You do not have to pay FUTA until your child turns 21.

You must still issue a W-2 form for children under 18. Your business deducts the expense. Your child must file a tax return, reporting the income from the W-2. The W-2 will not have FICA wages.

Roth IRA: Set your Child up for Retirment Success

Filing a tax return might not be required for the child if they are under the income limit for filing. However, we advise they file one anyway if you are reporting a Roth contribution.

Here’s how it works: Minor children receive the same standard deduction as anyone else. For example, assuming your child earns the standard deduction amount or less, your child can fund their Roth IRA without paying taxes. Plus, all ROTH IRA growth is tax free.

Time is your greatest friend when investing. If your child begins funding her ROTH IRA at a young age, she’ll have also have an outsized ROTH at a young age. In this case, early retirement will be an option.

Youth Labor Laws

Following labor laws is still required when hiring your children. Children under 14 generally cannot be employed in non-agricultural jobs, and the hours children between the ages of 14-17 are allowed to work are restricted. Learn more about youth and child labor laws in the U.S.A.

You need to track the hours and tasks performed by your child, as you would with any employee. This is good business; it is also necessary to prove your deduction. Estimating this number when you come to file may lead to your deduction being disallowed.

Remember, cheating your taxes in the short-term is guaranteed to cost you in the long-term.

S-Corps, C-Corps and Partnerships

To reap the tax benefits listed above, your child’s wages must come directly from your business. . Household chores do not count for tax deduction.

An S- and C-corp are legal (regarded) entities. Your child is not the entity’s child. Therefore, wages paid from a regarded entity to your child should be treated the same as they would be with any other indiviudal. FICA, state unemployment insurance, and FUTA will apply.

Partnerships composed solely of the child’s parents only avoid FICA and FUTA on wages to minor children.

Partnerships involving those who are not the parents of the child must treat the child’s wages as they would any other employees. Payroll taxes apply.

Note: An entity, an S-Corp, for example, will still deduct wages paid to an owner’s child. The child still gets the standard deduction before income taxes begin. The child can still invest in a Roth IRA. The difference is that payroll tax and unemployment insurance apply.

Kiddie Tax

Earned incomes (wages) are not the only income your child might have. Unearned income (interest, dividends, and capital gains) are other sources of income.

In the 2024 tax year, $1,250 of unearned income is tax-free to the child up to the year they reach 18, as well as full-time students 23 and under where earned income is less than half their support. a The next $1,250 is taxed at the child’s tax rate. Additional unearned income is taxed at the higher of the child’s or parent’s tax rate.

Unearned income can limit the benefits outlined in this article when paying your minor child for business related activities.

S-Corp Workaround

The S-corporation is a powerful tool for reducing taxes. If your child is on an S-Corp payroll, the child must be issued a W-2. Standard FICA taxes and income tax withholdings also apply.

But there is a workaround. To regain the benefits of paying your child from a sole proprietorship, you can pay your minor children from a family management company.

A family management company is a sole proprietorship used to manage certain aspects of your S- (or C) corporation. The S-corporation pays a management fee to the family management company, which in turn pays your children. All the rules for paying minor children from a sole proprietorship then apply.

Paying your minor children is a simple concept. There are a few rules that need to be followed to gain the maximum tax benefit. These rules allow you a full tax deduction while your children benefit from tax-free income and the ability to fund a Roth IRA.

And the money lessons, work ethic, and ROTH IRA contribution aquired will serve your children their entire life.

File your taxes with the Wealthy Accountant.

FAQs

How to File Taxes for Children Employees?

Employees under 18 should receive a W-2 Form the same as any other employee. If you have an employee who is also a minor and has been treated as an independent contractor, they should receive a 1099-NEC.

Do Minors Get Taxed for Working?

Children do get taxed for working. They are subject to the same tax withholdings as adults, in addition to kiddie tax. Small businesses owners can hire their own children within a business, and the child can earn up to $14,600 before they owe federal income tax.

Can I pay my Five-Year-Old from my Business?

If your child is providing labor for your business, there is no age limit from a tax perspective on who you can pay. For example, if you have a business selling children’s clothes, you could reasonably employ your five-year-old child as a clothes model.

However, you must ensure you both adhere to child labor laws, and that your child is performing a legitimate service withinin your business. If in doubt, ask yourself if you’d hire another employee to do the same work.

Do Minors get Taxes Taken out of their Paycheck?

Typically, minors are subject to federal income tax, Medicare, and FUTA taxes the same as adults. Employing family members in your business means your business is subject to different tax implications. When done correctly, both you and your child will save money on their federal income taxes if a your child is hired by your business.