When her son Brad was 16, veterinarian Paula Baker, owner of Allandale Veterinary Clinic in Austin, Texas, decided it was time to put him on staff at the clinic.
“I was tired of handing him unearned cash and wanted him to start saving for college spending money,” Baker says of her son, who is now a sophomore at Texas A&M University. “Having Brad work for me went really well. He was dedicated and dependable and got along well with the other employees.”
Though many small-business owners know the advantages of hiring their kids, such as encouraging a work ethic, what they don’t always realize is that putting minor children on staff can also save you tax money, says Larchmont, New York, tax attorney and former IRS special agent Julian Block, author of Julian Block’s Easy Tax Guide for Writers, Photographers, and Other Freelancers.
“If your children can perform necessary tasks for your company, this is a savvy and perfectly legal way to take care of their allowance or spending money—at the expense of the IRS,” says Block, who notes that you can hire kids to work for any small-business endeavor, be it full time, part time, long-established or a brand new company.
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Potential Tax Savings
According to IRS rules, any payments for the services of a child under the age of 18, who works for a parent in his or her business, are not subject to social security and Medicare taxes if the business or trade is a husband and wife partnership or sole proprietorship owned by the parent(s). “This tax benefit allows you to shift some income out of your higher tax bracket into your child’s, which is lower, and doing so can lower your Social Security taxes by as much as 15.3 percent,” Block says.
This tactic also doesn’t initiate any “kiddie tax” rules, which are notorious for preventing grandparents and parents from shielding investment income in a child’s lower tax bracket.
“A parent’s business can deduct the wages, which are taxed at the child’s lowered rate, which often means it makes more sense to pay a child wages than to give the child property,” Block says.
How it Works
Income your child earns can be offset by a standard deduction that is six times greater than it would be if it were investment income. “For 2013, the standard deduction for investment income is capped at just $1,000, but for kid’s earned income it caps at $6,100, which means your child can earn up to that amount without paying taxes,” Block says. “This means if you're in the 30 percent federal and state bracket, your taxes will be lowered by about $1,830.”
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Follow the Rules
Not surprisingly, the IRS is suspicious of deductions for child labor, so it’s important to follow the rules to the letter. You must be able to establish that your child truly works for you, and the work he or she does is possible according to age. (Don’t expect the IRS to agree that your 5-year-old has been successfully answering the phone.)
The wages you pay to your children must also be reasonable and commensurate with the going rate for that duty. Emptying trashcans at $30 an hour isn't going to cut it. Making deliveries and assisting with computer related tasks, on the other hand, could warrant $15 to $20 per hour.
The bottom line is to treat your children as you would any other employees, Block says. “Even if they're classified as exempt, make it official by having them fill out W-2 forms. And always pay them with company checks.”
Now that you know the tax benefits of hiring your children, you can tell them the good news: “You’re hired.”Read more finance articles.
A freelancer since 1985, Julie Bawden-Davis has written for many publications, including Entrepreneur, Better Homes & Gardens and Family Circle. Julie blogs via Contently.com.
Photo: Getty Images