As a business owner, you might consider giving your child a job in your company. This is not only a good way to teach them valuable skills and responsibilities but could also offer some financial benefits – both for you and your child. However, many business owners fail to properly follow proper tax laws and guidelines when paying their child, which could lead to issues with the IRS.

In this blog post, we’ll give you some helpful tips on how to legally pay your child and avoid getting in trouble with the IRS.

The Basics

Document your child’s work and pay – One of the most important things you need to do is document your child’s work and pay. You should establish a formal employment agreement outlining the work he or she will do, how much they’ll earn, and when they’ll receive pay. Keep records of the work done and the hours worked, even if it’s just a few hours a week, as you’ll need these details when preparing your tax filings. It is essential that you treat your child’s pay just as you would for any other employee.

Pay your child a reasonable wage – Your child’s pay should be reasonable based on the work they perform and the age. The wage should be in line with what you would pay an unrelated outside employee for the same work. Refrain from paying an excessive salary or giving a raise just to lower your tax burden, as the IRS may view this as an attempt to evade taxes. Additionally, always pay your child through check or direct deposit rather than in cash. This documentation will be necessary if the IRS audits your business. We recommend depositing your child’s pay into a custodial account in the child’s name.

Meet age restrictions – Your child must be at least 7 years old to perform non-hazardous work (such as clerical work, filing, and answering phones) for your business. If they are below 14, the IRS permits employers to pay lower wage rates. If their work poses a potential for danger or harm, such as using heavy machinery, you should consider hiring an outsider, as child labor laws and tax rules are stricter on these types of jobs.

Don’t forget about employment taxes – You will pay your child as a W-2 employee and may need to withhold income taxes. If your business is formed as an S-corporation, a C-corporation, or a partnership, you will also have to pay Social Security, Medicare, and other employment taxes on your child’s income (check out the last FAQ below for a legal hack around this).

Consult a tax professional – Finally, we recommend consulting an experienced tax professional when setting up and paying your child. There are specific state and federal laws that you need to follow, and it may be challenging to interpret them correctly. A tax professional can help ensure you meet all the legal and tax obligations, and guide you through any unique requirements that may apply in your situation.

The Details

If you’re considering paying your child from your business, you likely have specific questions. Here’s a number of FAQs we get on paying your children (click to expand):

If you decide to hire your child to work for you, you may be eligible for some benefits come tax time. If your business is a single-member LLC taxed as a sole proprietorship, or an LLC taxed as a married couple, you may not be required to withhold or pay FICA or FUTA tax on your child’s wages if they are under 18.

However, there are exceptions to this rule. If your child is over 18, and your business is a sole proprietorship or a partnership, then your child’s wages may be subject to Social Security and Medicare taxes. But, if your child is under 21, then their services aren’t subject to FUTA taxes.

If the business is a corporation, an estate, or a partnership (unless each partner is a parent of the child), you must withhold Social Security, Medicare, and FUTA taxes regardless of age. See the last FAQ below for an alternate strategy.

You can deduct your child’s wages as a business expense as long as the pay is reasonable and the job they do is necessary.

Your child can earn up to the standard deduction amount for the year ($13,850 for 2023) without owing income tax.

If you are a sole proprietor or have a partnership with your spouse and your child is age 17 or younger, the IRS says you don’t need to pay Social Security or Medicare, or FUTA (unemployment) tax on their wages. But you should still withhold income tax** no matter how old your child is. And note your child’s wages are subject to Social Security, Medicare, and FUTA tax if:

  • You are in a partnership with someone other than your spouse
  • Your business is a corporation
  • They work for an estate (even if the estate belongs to a deceased parent)

** You are still expected to withhold income tax from your child’s wages during the year, but they can file a return and claim a refund for taxes paid

It depends on how much income they earn. If your dependent is age 17 or younger and earned more than the standard deduction amount for that tax year, they will need to file a personal income tax return.

If your child earned less than the standard deduction amount but you withheld income taxes, they may still want to file anyway, because they’re likely owed a tax refund.

As long as your child still relies on you for financial support and meets the typical dependent requirements, you can claim them on your return.

As a rule of thumb, you should issue a W-2 to anyone who works for your business and is classified as an employee. This includes your child.

If your child is over age 18 and you’ve decided to treat them like an independent contractor for tax purposes, you’ll need to give them a 1099-NEC (if you’ve paid them $600 or more).

But a word of caution: Treating your child like an independent contractor means you are not withholding income tax from their paycheck, and you are not paying the employer’s share of Social Security and Medicare. It also means that you do not manage them or their work directly. Misclassifying an employee as an independent contractor could have consequences for you as a business owner, so proceed carefully.

If your business is set up as an S or a C corporation, or a partnership with non-family member partners, the IRS says you have to withhold payroll taxes when employing your kids.

But there is a legal strategy to get around this: pay them from a management company.

Here’s how it works. You create a simple management company as a sole proprietorship separate from the S or C Corporation and owned by yourself or your spouse.

The management company’s sole business purpose is to support the operations of your corporation, which could include all the accounting and bookkeeping, and scheduling and supervising your children’s work.

The management company charges the corporation a management fee for these services and then pays your child, which removes them from the corporate payroll. The corporation will deduct as a business expense the payments to the management company.

Since the management company is a sole proprietorship that belongs to a parent—either you or your spouse—It qualifies for the IRS exemption that exempts it from having to withhold payroll taxes.

Conclusion

Paying your child for work is a great way to teach them responsibility and offer them financial benefits. However, as a business owner, you need to ensure you comply with state and federal employment and tax laws. Remember to document your child’s work and pay, pay them a reasonable wage, adhere to age restrictions, pay employment taxes, and consult with a tax professional. By following these guidelines, you can avoid any issues with the IRS while securing your child’s financial future.

Got other questions about how to pay your child from your business? Drop us a note here and we’ll get right back to you.