According to experts, if you're self-employed, employing your children could offer tax advantages, provided you adhere to labor laws and IRS regulations.
The topic of small businesses hiring their children is popular among social media influencers on platforms like TikTok, Instagram, and YouTube. However, tax professionals often find themselves correcting misinformation from such posts.
"Many TikTok videos contain a kernel of truth, but they're often exaggerated or only applicable in specific scenarios," explained Matt Metras, an enrolled agent and owner of MDM Financial Services based in Rochester, New York. "But in a 60-second video, conveying that nuance isn't the focus," Metras added.
For those considering hiring their children this summer, financial experts highlight some essential points to consider.
Hiring Your Children Can Be Tax-Efficient
Certified financial planner Sean Lovison, founder of Philadelphia-area Purpose Built Financial Services, suggests that employing your child can be a tax-smart decision. "Their wages can be deducted as a business expense, leading to significant savings for your small business," he explains.
For the year 2024, the federal standard deduction for single filers stands at $14,600. "If your child's income falls within these limits, they may not owe any income tax, which can be advantageous for both parties," Lovison, also a certified public accountant, points out.
Moreover, payments to children may be exempt from Medicare and Social Security taxes, depending on their age and your business's legal structure, according to the IRS.
Once your child earns "earned income" or wages from employment, they can contribute to a Roth individual retirement account, a beneficial option for young savers, as experts highlight.
Carol Fabbri, CFP and managing partner of Fair Advisors in Conifer, Colorado, emphasizes the triple-tax benefit for children: minimal to no taxes on contributions, tax-free growth, and generally tax-free withdrawals in retirement. "It's never too early to instill a habit of saving," she encourages.
However, it's essential to monitor the contribution limit for 2024, which is either your child's total earnings or $7,000, whichever is lower.
Key Considerations Before Hiring Your Children
Before you decide to employ your children, it's crucial to be well-versed in both state and federal labor laws, as well as tax regulations, according to experts.
"Some states essentially prohibit the hiring of children under 14 under any circumstances," noted Lovison.
If you do hire them, your children must genuinely contribute to the business, and their compensation should be fair relative to their responsibilities.
"Maintaining accurate records is essential," emphasized Lovison. "Not only does it aid in navigating tax requirements, but it also serves as a valuable reference if any inquiries arise regarding your child's employment."
The IRS mandates income tax withholding on payments to children, regardless of their age. Hiring them as W-2 employees and withholding taxes "ensures compliance," but if their income falls below the standard deduction, Lovison added, they can claim a full tax refund.
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