Entity and structure

Hiring your children, the version that holds up

Your teenager already helps at the business and you already hand them money. Turning that into a deduction is straightforward. Turning it into a deduction that survives a question is a different job.

It usually starts informally. Your daughter runs the social accounts. Your son breaks down boxes on Saturdays and answers the phone in the summer. You pay them out of your own pocket because that is what parents do.

Then somebody tells you that you could be paying them through the business and deducting it, and the idea sounds too good to be true. It is not too good to be true. It is just half a strategy, and the half people skip is the half that matters.

The misconception

The belief is that paying a child is automatically deductible because they are on the payroll of a business you own. It is not automatic. Wages are deductible when they are paid for genuine work, at a rate that reflects that work, and when they are paid the way wages are actually paid.

Transferring money to a child and writing wages in the ledger is not a wage. It is a gift with the wrong label on it, and the label is the only thing anyone would need to examine.

What is actually happening

Two things move at once. The business deducts a legitimate wage expense, which reduces business profit and therefore the tax that flows to you. The child receives income which is taxed in their own situation, which for a young person with modest earnings is usually a very low rate or none at all.

The gap between your rate and theirs is the whole benefit. On top of that, earned income opens doors that unearned money does not, including the ability to fund a retirement account in the child's name, which is quietly the most valuable part of this for a family that does not need the cash.

The strategy is the easy half. The paperwork is the half that decides whether you keep it.

Payroll treatment then depends on your entity type. A business owned entirely by the parents as a sole proprietorship or a certain kind of partnership is treated differently from a business operating as a corporation. Those rules are specific, they turn on how the entity is owned, and they change what employment taxes apply to the child's wages. This is the detail people find out about after they have already run a year of payroll the wrong way.

The number

The range per child per year depends on how much genuine work there is, what that work is worth at market rate, your marginal rate, your entity type and your state. For a family with real work to assign and meaningful profit it can be a useful annual amount per child. For a family inventing tasks to justify a figure it is nothing, because the position does not hold.

The thresholds that make the child's side efficient move over time. Treat any figure you read as something to confirm for the year in question rather than as a fixed rule.

What it actually requires

Here is the list, and it is the article:

• A written job description for a real, age-appropriate role
• A pay rate you could defend as market for that work performed by anyone
• Time logs kept as the work happens, showing hours and tasks
• Actual payroll, run on a schedule, with the filings that come with it
• Year-end forms issued to the child the same as any other employee
• Money genuinely paid into an account the child controls or that is held for them

The last one catches people. If the wages are paid and then immediately spent by the parent on ordinary family costs, it is difficult to argue the child was ever paid. Paying for the child's own long-term savings or their own expenses is a different matter from routing money back to household bills.

Who this is not for

If you will not run payroll properly, do not do this. Half-doing it is worse than not doing it. A deduction taken without the supporting payroll and forms is the cleanest thing in the world to disallow, and the adjustment generally arrives with interest and penalty attached across every year you did it.

It is also not for you if your entity type makes the payroll treatment unfavourable and restructuring for this alone would cost more than the benefit. Changing how a business is owned is a large decision. Doing it to improve the tax treatment of a summer job is the tail wagging the dog.

And it is not for children who do not actually do anything. There is no version of this that works with a three year old on the marketing team. Age-appropriate real work is the floor, and if you cannot describe the role to a stranger without wincing, there is no role.

The timing

This runs through the year. Wages are earned as work is performed, which means payroll on a schedule, logs kept along the way, and a role that exists in June as well as in December. One large payment in the last week of the year for work supposedly done across twelve months is the pattern that draws attention, and it is indefensible for the simple reason that it is not how anybody pays an employee.

This is a planning question

None of this can be added to a return. By filing season the payroll either ran or it did not, the logs either exist or they do not, and the forms either went out or they are late. Setting it up correctly happens before the work starts, with someone who has looked at your entity type first.

This is general information, not advice on your own situation. Whether any of it applies to you depends on facts this article does not know.