Many family-owned businesses consider hiring their children as a way to teach work ethic and involve the next generation in the company. However, this decision comes with important tax implications and potential pitfalls that business owners must carefully navigate.
Tax Benefits of Hiring Your Child
When you pay your child a reasonable wage for legitimate work, that salary becomes a deductible business expense, reducing your taxable income. Additionally, your child may have little to no tax liability on earned income if their wages fall below the standard deduction threshold.
Important Requirements and Safeguards
- Legitimate Work — your child must perform actual, necessary work for the business
- Reasonable Compensation — wages must reflect fair market value for the services rendered
- Proper Documentation — maintain detailed records of hours worked and duties performed
- Payroll Records — process payments through your business payroll system
Potential Pitfalls to Avoid
- Excessive wages compared to work performed can trigger IRS audits
- Lack of documentation makes it impossible to substantiate legitimacy
- Claiming work when minimal or no actual duties were performed
- Inconsistent treatment compared to other employees
- Violating child labor law age restrictions
Best Practices
- Create a written job description
- Maintain contemporaneous time records
- Pay wages consistent with industry standards
- Process all compensation through formal payroll
- Consult with a tax professional before implementing
