Hiring a spouse or child in the business

How it works

Wages paid to a child under 18 by a parent's sole proprietorship, or a partnership owned only by the child's parents, are exempt from Social Security and Medicare tax, and under 21 from federal unemployment tax; the wages are still deductible to the business and taxable to the child, who often owes nothing because the standard deduction of this year's official standard deduction single (not yet verified here; see the official source below) covers it. The exemption does not apply when the business is a corporation. A spouse employed by the business is subject to Social Security and Medicare tax but not federal unemployment tax, unless the business is a corporation, where the usual rules apply. The work has to be real, the pay reasonable for the task, and the hours and duties documented with payroll records and a W2.

What it gives

Income shifts from the parent's bracket to a child who may owe no income tax at all.

A child's wages count as earned income for a Roth IRA, which starts the five year clock early.

A spouse on payroll can be covered by the business's retirement plan and health benefits.

What it costs, or where the catch is

Paying a child for chores or for hours not worked is not a business expense and fails on audit.

The payroll tax exemption disappears if the business is a corporation.

Running payroll for a family member brings the same forms and filings as any employee.

A worked example

Delphine runs a sole proprietorship and hires her 15 year old son Ezra to manage the website and photograph products, paying him $14 an hour for 400 hours, which is $5,600 for the year. The business deducts the $5,600 and pays no Social Security or Medicare tax on it. Ezra's income is below the standard deduction, so his income tax is $0, and at Delphine's 24 percent rate the family saves about $1,344. He puts $3,000 of it into a Roth IRA.

Where it goes wrong

The common miss is paying a child a round sum at year end with no timesheets, no W2, and no real duties, which looks like a gift relabeled as wages.

Who confirms it for you

For your own numbers, a CPA or enrolled agent. This page explains how the rule works for people in general; it does not know your situation and does not tell you what to do.

The official source

IRS: Family help. Every figure that changes by year comes from the site's rules table, which the watcher checks against the official page on a schedule; where a figure is not yet verified, this page says so instead of printing a number.