Hiring Children to Work in the Family Business
There are a number of benefits from employing your kids to work in your family business. Saving payroll taxes, shifting to a lower tax bracket, avoiding the Kiddie Tax, paying for college, using ROTH IRAs, and utilizing Section 127 Educational Expense Reimbursement plans are the major benefits. Aside from the tax benefits, strengthening family bonds, training kids how to work, handle responsibility, and increasing skills are nontax benefits that can have equal or greater value over the long-term.
Shifting Income to a Lower Tax Bracket
Reduces the overall family tax burden
Wages paid to the child by the parent business owner are deductible in the parent’s business tax return and wholly or partially sheltered by the child’s standard deduction. The standard deduction for a child is the greater of a) $900 for 2008, or b) $300 plus the amount of the earned income, but not to exceed the normal standard deduction, which for 2008 is $5,450.
Eliminating the Dreaded Kiddie Tax
Another reduction of the overall family tax burden
If the wage amount paid to the child by the family business plus any other earned income the child received exceeds the value of support provided to the child, the Kiddie Tax no longer applies. That means the child’s income, including dividends and capital gains, is taxed at the child’s lower marginal tax rates, not the parent’s highest marginal tax rate.
Using ROTH IRAs
ROTHs are better than traditional IRAs
A traditional IRA contribution, allowing the child to deduct the amount of the IRA contribution, makes no sense in most situations for two reasons: a) the monies cannot be withdrawn or utilized for college until the child retires, and b) the child most likely does not really need the deduction since he or she will already be in a lower tax bracket than the parent. The ROTH IRA is a great way to help fund college because the amount of the contribution, not the earnings or growth, can be withdrawn at any time (the five-year rule does not apply to the contribution or cost basis monies).
Reduction in Payroll Taxes
Another reduction of the overall family tax burden
If the form of business entity is a sole proprietorship, wages paid to a child are exempt from FICA and Medicare tax if the child is under the age of 18. They are exempt from Federal Unemployment Tax (FUTA) if the child is under age 18. They are exempt from state unemployment tax also is the child is under the age of 21. Wages of the child will reduce the parent’s self-employment income, which, if it is under the FICA maximum (which is $102,600 for 2008), will save the parent 15.3% of the wages paid.
Section 127 Educational Expense Reimbursement
A tax-free way to pay for college expenses
The details and importance of utilizing a Section 127 plan to finance certain college expenses on a pre-tax basis have been covered in another tax information letter. It can be a great tax benefit in the right situation because the maximum amount of $5,250 allowed by Section 127 of the Internal Revenue Code as a tax-free reimbursement is significant. It is critical that the plan be written, conform to IRS requirements, be nondiscriminatory, and not make reimbursements to parent-business owners.
|
Subscribe to our Newsletter
