This strategy normally results in an overall reduction of the taxes paid by the family unit. Wages paid to a child create opportunities to shift income from your higher tax bracket to your child in a lower bracket.
The wages you pay your child also provides them with an opportunity to contribute to either a deductible IRA or a Roth IRA. The income earned by a deductible IRA is not taxed until withdrawn by the owner, while the earnings of a Roth IRA are generally tax free at withdrawal. Although a deductible IRA and a Roth IRA are normally held for retirement, withdrawals from either to fund most education expenses at a post-secondary educational institution are exempt from the 10% penalty on early withdrawals.
Payroll Tax Exemption- Wages paid by your sole proprietorship to your children who are under age 18 are exempt from FICA payroll taxes. This exemption also applies to the owner of a disregarded single member LLC.
Illustration of tax savings -Brandon, a self-employed consultant, hires his 15 year old daughter to perform a variety of clerical tasks throughout the year. Brandon’s income from his business is below the self-employment tax limit. For 2015, Brandon paid his daughter $6,300 for these services. Brandon is in a 25% federal income tax bracket and this compensation results in $1,575 of income tax savings to him. Since his daughter has no other income, she pays no income tax on these wages because the amount is equal to her standard deduction.
Since the daughter’s wages are not subject to payroll taxes, Brandon saved himself an additional $779, the amount of self-employment tax (net of the self-employment tax deduction) he would have paid on the $6,300. The total income tax and payroll tax savings in this case is $2,354. If Brandon had another child who was able to work in his business, his tax relief or savings would be even greater.
If you’re a business owner looking for tax relief, our tax consultants can help you save taxes by implementing sound tax planning concepts. We serve the entire South Florida area, including Pembroke Pines, Plantation, Ft. Lauderdale, Coral Springs, Boca Raton, Wellington and West Palm Beach. Call us today for tax planning help!