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To Pay or Not Pay Your Kids?

There are some good reasons to recruit your own offspring to work for you. It’s a good opportunity for teens and college students to earn their own money and gain valuable work experience. Involving your kids in a family business might inspire and prepare them to take over when you are ready to retire. Last but not least, parents who employ their children enjoy access to several lucrative tax benefits.

Taxes, Taxes, Taxes

When you pay your kids and they are under the age of 18, your child’s wages are not subject to Social Security and Medicare taxes (FICA). This adds up to 15.3% (for employee and employer) in 2016. If the child is under age 21, there is an exclusion from the federal unemployment tax (FUTA). Of course, children’s wages are still subject to income tax withholding.

Even if your children are too old to qualify for these favorable payroll tax breaks, you can deduct the wages you pay them as a business expense. This shifts income from your tax bracket to their lower one. Therefore, your child pays no income tax on the first $6,300 in earnings because of the standard deduction. However, wages are earnings and thereby, the “kiddie tax” does not apply. Children subject to the kiddie tax are generally subject to their parents’ tax rate on any unearned income over a certain amount.

When you pay your kids, their payroll is deductible only if he or she performs real work (not household chores) within your business. In addition, the wages must be reasonable for the services.

The Roth Opportunity

If you pay your kids, their money can contribute to a Roth IRA ($5,500 limit for 2016). A Roth IRA can be a flexible way to save for college and retirement needs.

Because Roth IRA contributions are after-tax dollars, your kids have options. They could use the money without penalty at any time and for any reason. Normally, there is a 10% penalty for early withdrawals of earnings before age 59½. However, there are a couple of handy exceptions. For example, a penalty-free distribution can pay for higher-education expenses or to purchase a first home ($10,000 lifetime maximum).

Qualified withdrawals of earnings from a Roth IRA are tax-free, regardless of how much the account grows over time. A qualified withdrawal is one that meets the five-year holding requirement and takes place after age 59½, or that results from the owner’s death or disability.

Freeman Owen, Jr -Retirement Specialist

Planning for retirement is important for you and your kids. Let me help you get started!

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