Paying a Child Employee

Did you know you could pay your child through your business and save taxes?

When properly implemented, you can hire your child to do work for your company and be able to expense their compensation income tax free (when paid up to the current standard deduction amount), and depending on your companies formation you may also be able to pay the child without any employment taxes (FICA, SS, Medicare, FUTA, etc.).

Legal Requirements for Deduction

Generally, the Internal Revenue Code allows compensation to an employee as a business expense only if it is:

(1) reasonable in amount;

(2) based on services actually rendered; and

(3) paid or incurred

In addition to these specific elements, the deduction still has to meet the requirements of business expenses as per the IRC. 

Facts weighing against the taxpayer in determining if the compensation is deductible

1. failing to pay employment taxes and file information returns with respect to the child
2. paying the child a flat amount determined at the beginning of the year that is not based on the services actually performed
3. a lack of correlation between the dates and amounts of payments and hours allegedly worked by the child
4. failing to maintain adequate records of the child’s hours worked and amounts earned
5. compensating the child for services which are in the nature of routine family chore

Risk of Audit

When a family member is involved courts closely scrutinize the transaction. The deduction for paying a child as an employee is one that is looked at closely by the IRS.

What should you do

1. Fill out a W4 for the child
2. Fill out an I9 for the child
3. Issue a W2 annually for the child
4. Keep an accurate log of work the child performs (what, when, where, how long)
5. File tax return for the child
6. Pay the child “reasonable” wages
7. Pay the child through check or payroll