Put your child on summer payroll

If your teenage child needs a job for the summer, the perfect solution might be right in front of you.

Strategy: Hire your child to work for your business while school is out. While your child can do meaningful work and earn some spending money, the family picks up a bushel of tax breaks in the process.

Because your child is treated like any other worker, he or she may cash in on valuable fringe benefits. In addition, the compensation paid to the child is fully deductible by your company. To top things off, you may slash your overall tax bill through family income-splitting.

Pay less tax on the same compensation

Suppose you pay your 17-year-old child $5,000 in salary this summer that otherwise would have been added to your taxable compensation. Since the standard deduction for 2015 is $6,300, your child pays no income tax if he or she doesn’t have any other earnings. If you are normally in, say, the 35% tax bracket, the family saves $1,750 in tax (35% of $5,000).  

What’s more, your family saves even more tax overall if your child’s income exceeds the standard deduction amount. Reason: Every dollar paid to your child instead of you is taxed at a lower tax rate.

BP Handbook D

What fringe benefits can your child benefit from? Basically, whatever your company offers. This generally includes the following:

Insurance plans: You can provide health insurance coverage for your child under a group plan. The health insurance protection is completely tax free. Also, the first $50,000 of group-term life insurance coverage paid on behalf of your child is tax free. With both types of insurance plans, the premiums paid by your business are deductible.

Qualified retirement plans: Your child is eligible to participate in your 401(k) or other qualified retirement plan. Although withdrawals generally aren’t allowed before age 59½ without a 10% penalty, the funds accumulate on a tax-deferred basis.

IRAs: Now that your child has earnings from a job, he or she can sock away up to $5,500 in a traditional IRA or a Roth IRA for 2015. Since your child’s income is low, the contributions to a traditional IRA are deductible on his or her personal return.

FICA and FUTA: If a child under age 18 is employed by a parent in an incorporated business, the earnings are exempt from FICA. This exemption applies to FUTA tax up until the age of 21.

Note that the kiddie tax doesn’t apply to earned income like wages from a summer job. However, there may be other tax implications for some families, so consider all the angles.

Finally, make sure your child is an official employee of the business. That means withholding tax from his or her salary and filing all the necessary paperwork.

Tip: Pay your child a reasonable amount for the services that will actually be performed.