When it comes to parenting, teaching children financial lessons they use throughout their lives is an important part of our job. This includes teaching them about finances by paying them to work for us.
Although we all would love to be able to pay them tax-free, not everybody can get away with paying their children while also reaping the tax benefits. Luckily, getting tax breaks when you hire your children is just one of the perks of being an entrepreneur.
Tax Benefits Prevail
Overall, when you hire your children to work for you, the benefits certainly prevail. Remember these important points:
- Make sure your company is set up correctly to pay your children for maximum tax benefits
- Create a sole proprietorship family management company as a workaround if necessary
- Work your children do must be age-appropriate
- Wages earned must be fair market value
- Pay them no more than $12,000 per year
- Pay your children as employees
- Reduce your taxable income
Following these steps means your children don't have to pay taxes on earned income, they get to learn some valuable business lessons, and hopefully some new skills too. But they also get to learn a lot about finances and how taxes work.
The earlier we can teach them this, the better off they will be.
Which Company Structures Benefit
If you want to hire your children, there are only a few ways you can do this and get the tax breaks.
First and foremost, hiring your children can be extremely beneficial for everyone. You get to teach them all that you know about your chosen profession, and they get to learn some great new skills. Hopefully, they will also learn what comes with being an employee, which is a great service to future employers, so don't discount these benefits.
But on top of these lessons, you all may be able to benefit by paying reduced–or no–taxes on their work. This is one of my favorite benefits!
The three ways that you can legally hire your children and qualify for tax benefits are:
- Sole Proprietorship
- Sole Member LLC
- Partnership LLC, where you and the partner both claim the child as a dependent
If you fall into any of these categories, then you may be in luck! Your dependent children can work for you and, in most cases, they won't have to pay taxes on the money they earn. (Here are the IRS rules on this.)
As a company, you can also reduce your taxable income by the amount you pay your children throughout the year. This then reduces the overall taxes you might normally owe.
Not only do you get to reduce your taxable income, but your child can be exempt from most taxes on this earned income and you get your children to work for your company. You are teaching them valuable life skills regarding finances and taxes. It's a win-win in every capacity!
After all, taxes are one big financial game. This is a great lesson to pass on to your children so that they can be savvier with their finances earlier than you were.
Workarounds For Other Company Structures
If you have a corporation that does not fit into any of the three categories listed above, there may still be a workaround for you though.
In order to get the tax benefits of paying your children, when you own an S or C Corp, you will have to create another entity.
This entity can be a Sole Proprietorship or a Single Member LLC, which will be the family management company.
The family management company will be a vendor paid through your S or C Corp. The family management company will then hire your children and pay them through this entity instead of through your corporation.
Yes, it is another step, but it could be beneficial in the long term to set up this middle company.
Age Limits To Hire Your Children
The age your children have to be in order to legally hire them is unclear. There are no clear-cut rules listed by the IRS regarding how old a child must be to work for his or her parents.
In reality, any of your dependent children can work for your company, no matter their age.
However, the unspoken rule is that children six years of age or younger have a tendency to flag the IRS more often. This is due to the fact that the IRS doesn't see how a child that young can assist in a business efficiently and effectively.
Therefore, whatever responsibilities you give your child must be age-appropriate.
Take us for example. We have a blended family with five children, with ages ranging from seven to 14. They all work for my business but in different capacities due to their different ages and skills.
Here are a few examples of things that we have our children doing when they work for me:
- 7-year old: opening and sorting mail, shredding, cleaning off dog paws
- 9-year old: picking up dog poop, brushing dogs, cleaning off dog paws
- 11-year old: walking dogs, feeding dogs, assisting with giving dogs medicine, bathing dogs, brushing dogs, video creation
- 13-year old: vacuuming, cleaning couches, picking up dog poop, walking dogs, feeding dogs, video creation
- 14-year old: technical solutions, graphic design, research, vacuuming, picking up dog poop, walking dogs, video creation
As you can see, their duties vary by age, capability, and area of interest.
Since my company is a Sole Member LLC, and my trade is listed as consulting, there is a wide range of things they can legally do to help. We also board dogs under this LLC, so anything they do to assist with the boarding, maintaining, or cleaning up after animals qualifies as employable work.
Please keep in mind that you cannot use your business to pay your children for regular household chores. Whatever they are doing must be to assist with any, or all, of your businesses in order for you to legally pay them through your company.
How Much You Can Pay Your Children
How much you end up paying your children is entirely up to you. There are also no clear-cut rules from the IRS when it comes to wages.
But they do state that the wages paid for the work done must be fair market value. This means that you can't pay your children $100 an hour for walking dogs. That would be a big flag to the IRS and get you audited in a heartbeat.
I don't know about you, but I have no desire to be audited! We want to play by the rules and get the legal tax breaks afforded to us.
That being said, here are a few examples of what I pay my children for some of the duties they perform:
- Walking dogs – $5 per walk
- Feeding dogs – $2 each feed
- Bathing dogs – $5 each bath
- Technical Solutions – Varies depending upon request, but usually between $10 – $20 per solution
- Video Creation – $5 for each child who helps come up with the idea and is in the video
As you can see, the rates I pay them aren't exorbitant. But, they are getting paid a decent amount for the work they are performing. This is especially true since the work is regular and recurring.
When it comes to the total amount you are allowed to pay your children per year and still reap the tax benefits, that is a little different.
There is a hard and fast rule for this amount, which can change annually. As of 2019, the number is $12,000 per calendar year.
Once your children make even a penny more than that, they are required to file a tax return and are subject to income taxes. So, as long as you don't plan to pay your dependent children more than $12,000 per year, then they will not be required to file a tax return and won't be subject to any taxes.
And you could be getting a really good tax break for your business.
How Should Your Children Be Paid
One rule to follow is regarding how you must pay your children through your business. While this may not seem like a big deal, it actually could be, particularly if you don't pay them correctly.
There are two ways you could set up your children to be paid through your business:
- 1099 contractor
If you set them up as a 1099 contractor, they become a vendor. The issue with this option is that your children will then become subject to self-employment tax. The tax bracket for 1099 contractors is much higher than employees, due to having to pay self-employment taxes.
So this option doesn't really help your children out as much as you would want.
If your goal is to reap the full tax benefits, for both your company and your children, then you must pay them as employees instead. The other benefit to paying your children as employees is that you don't have to withhold any taxes from their pay as long as it is under the $12,000 annual threshold.
If you already have employes this makes life a little bit easier for everybody! If your child is going to be your only employee you may end up paying more in administration fees than is worth it. This is definitely something to look into before making the plunge.
Are you taking full advantage of all of the tax benefits available to you when you hire your children?