Why not keep that saved tax money in the family?

If you’re a small business owner with children, you might not realize a huge deduction is sleeping in the next room: your kids. Of course, you deduct them as a dependent on your own returns, but if that’s the only tax savings you’re getting, listen up, because you’re going to love this.

As a business owner, you can legally hire your kids and avoid paying many of the taxes that go along with hiring another employee. Things like witholding income tax is not required when employing the underage children of the business owner (unless you are a corporation.) Sole proprietorships and LLCs don’t need to deal with payroll for them at all, even though technically your child is an employee of the business. You also don’t need to cover them for worker’s compensation.

In addition, your kids don’t have to pay income tax on the money they earn – at least to a point – so they can keep more of that money.

But, there are a few rules you have to follow to make sure you handle this valuable deduction properly.

It Must Be Real Work

You have to be careful that your children are actually working in the business. You can’t assign them household chores and consider it a business task. Unless you’re running a landscaping or lawn service, raking leaves won’t qualify. But, if you assign them to do things you would normally do yourself or that you would hire outside help to handle, you’re in the clear.

Here are some ideas of legitimate tasks your kids could likely handle, depending on their age:

• Editing videos
• Basic site updates
• Internet research
• Basic graphic design
• Addressing and stamping envelopes
• Simple accounting or filing

You’ll need to be able prove the number of hours your kids worked, and that the wage they earned was reasonable. In other words, you can’t pay your kids $60 an hour for a job that would normally pay $12 an hour if you hired someone off the street. Set up a timesheet, or other legitimate means of tracking time like any other employee, and make sure your child fills it out and turns it in every pay period so you can provide it when necessary.

Paying Your Children

Each pay period, you’ll pay them right along with all your other employees or contractors. There’s no payroll tax or other deductions to worry about, so they get paid everything they earned, and you claim the expense.

Your child (like everyone else) can earn up to $5,950 tax free. That’s the standard deduction, and it applies no matter who the employer or employee is. So, why not keep it in the family?

In addition, like always, you can still claim your children as dependents. So your kids earn money tax free, your business claims the expense without worrying about payroll taxes, and you claim the deduction. It’s a perfectly legal and ethical system for working smarter while saving plenty of money on taxes every year.

Photo credit: Good ‘n’ Crazy