What did you think when you just read that? I bet a lot of you thought about the learning experiences, right? Having grown up working in family businesses I can attest to my own share of life lessons taught through working with family, but that’s not what I am talking about. At least not in full, there is so much more to this subject and very few people even know about it (possibly not even your accountant). The strategies we are going to discuss are for your children or grandchildren under 18, but there is also a way to do this with your adult children or grandchildren.
Non Tax Reasons
These strategies I’m going to tell you about will not only help minimize your tax liability, but it brings so many benefits to your family beyond the financial. What opportunities do you want to provide for your children? What life lessons do you wish you had been able to learn sooner? Having your children involved in your business can help develop work ethic, money, and time management skills. What about the value of work and maybe impart some of the entrepreneurial dream into them? That doesn’t mean you need to treat them like your regular outside employees. After all juggling school, homework and after school activities all have their place so some flexibility is to be expected. Another benefit is it opens the door to what is possibly the best retirement savings plans available, the Roth IRA.
Tax Reasons
Those ancillary reasons behind, let’s get into some of the benefits that really makes these strategies shine. Did you know that as long as your children are under the age of 18 and working in your family business, they aren’t subject to withholding on any income or payroll taxes (FICA) you pay them? In most states this also applies to unemployment insurance. Another advantage is that they will not have to pay anything in tax until they make more than the standard deduction ($14,600 for 2024). If they do happen to make more than the standard deduction, they will generally be taxed at a far lower rate than that of their parents. For a bonus point you won’t even lose your dependent child tax credits.
Tax Reasons for Your Business
So far, we have talked about the benefits for your children, now let’s talk about the benefits that come to you as the business owner. You get to take a deduction for all the wages you pay your children for the legitimate work they do for your business. This means that you can’t just pay them for cleaning their room or doing the dishes. But it also doesn’t mean that if you own a framing company that your ten-year-old will need to be running around on a job site. You also need to pay them a fair wage and keep records of the hours that they work.
How Does It Work?
So how does this all work? If you have a partnership (wholly owned by the parents) or a sole proprietorship the IRS allows you to pay your children under 18 without any withholding. Instead of listing it as a “payroll” expense you list it as “outside labor”. Additionally, you do not need to issue a W-2 to your children. The IRS rules for the penalty for not filing a W-2 is based on the withholding amount of the W-2, and since you don’t have to pay withholding on your children under 18 working for you its kind of a moot point.
The strategy is different if you own a S-Corp or C-Corp though as the rule regarding not paying withholding and FICA does not apply to them. But that is not where this ends, it just means we need to take a few more steps. You will instead set up a Sole proprietorship “Family Management” company that your business will pay management fees too. The “Family Management” company will pay your children for the work or services they do on behalf of your company. You might be thinking after those few sentences that you just set yourself up for more income tax. The strategy here is to zero out your Schedule-C for the “Family Management’ company. That means that every dollar you put into it is expensed away leaving it with no income to be taxed.
You might be asking what types of jobs count? What about having your teenager manage your businesses social media? You could also have them “model” for your business in your advertising campaign (this works great for infants and young children). You could also have them serve on your Board of Directors. There are so many different jobs that they could do that play into their interests.
Before closing this topic, I also wanted to share this last benefit of this type of strategy. You can pay your children to work in your business and then have them pay for things you would have bought them anyways. That’s right, what I am saying is you can effectively write of those things like dance classes or little league by using this strategy.
In Summary
To wrap this up let’s go through those benefits one last time.
- You get to write off the legitimate earned wages of your children.
- They won’t have to pay any tax on earning up to $14,600; and if they do make more they will generally be taxed at a lower rate.
- These strategies work in operational or online businesses as well as rentals.
- You get to help your children learn and develop essential skills.
- It can draw families closer together and help to grow your business.
Here at the end, I hope that you can see what game changer this strategy is and that it made you think about what it could mean for you in your business. There are a lot of intricacies in these strategies and planning and proper implementation are vital. Talk to your CPA or accountant about it or book a consultation with Cash Coach Consulting.