Tax Strategies for Hiring Family Members

Hiring a family member in your business is a good way to impart technical skills and entrepreneurial wisdom and experience as well as build stronger bonds with family. There are some tax implications and strategies to be aware of when working with family though.

How to Hire a Family Member
You would treat an adult family member the same as any employee and pay the same taxes and benefits you would pay an employee. It’s important to work with your family employees like any other employee with full transparency to prevent favoritism or workplace politics. This also keeps your business from federal and state violations of tax or employment laws.

Adult family members would have the same federal and state income taxes, FICA and FUTA withheld as any other employee.

How to Hire a Family Member who is a Child
Before you hire any underage employee it’s important to review the child labor laws for federal and state, which offer guidance on the proper work hours, times of day and type of work children can perform at different ages. For example, if your child is under the age of 18, they cannot operate dangerous equipment and children under 14 aren’t allowed to work at all.

If the federal and state law differ, the strictest law is the one to go with. State laws for hiring children differ, so be sure to know your state’s law and use a federal wage and hour map to read more about your state’s child labor laws.

Hiring and Paying Children
When hiring your child, the payroll tax requirements differ depending on your business type:

For corporations, even if you control the corporation, your child would be subject to payroll taxes for all money paid to them.

For sole proprietorships or partnerships with your spouse, your child isn’t subject to FICA or FUTA taxes if they are under the age of 18. You can deduct their wages as a business expense as well.

If your child is younger than 21, you have to FICA but not FUTA. Once they come of age, you will need to pay all their federal employment taxes accordingly.

If your business is a partnership, but both partners aren’t parents of the child (meaning you and your spouse aren’t the only partners) then your child is subject to all payroll taxes.

Your child should complete all new hire forms, including Form W-4, and if your child makes less than $800 a year, they may be exempt from taxes and no withholding is required. If you do need to withhold they may get it back if their total income isn’t too large.

The IRS is fully aware that this can be big tax savings for the parent, so be sure to treat your child like a real employee, pay them a fair wage and comply with the federal and state legal requirements or you can lose these tax deductions.

How to Employ a Parent
Your parents’ pay is subject to income tax withholding and FICA, but not FUTA. It’s important to know that Social Security and Medicare taxes do apply to wages paid to your parent for domestic services in particular if all of the following are true:

• You employ your parent;
• You have a child or stepchild living in your home;
• You are a widow or widower, divorced, or living with a spouse, who because of a mental or physical condition, can’t care for the child or stepchild for at least 4 continuous weeks in a calendar quarter; and
• The child or stepchild is either under age 18 or requires care for at least four continuous weeks per quarter due to a mental or physical condition.
• In this case, you would pay your parents as a household employee and this would be reported on Schedule H which will be included in your personal federal tax return.

How to Employ your Spouse
If you’re a Schedule C filer and want to employ your spouse, their wages are subject to typical employment taxes but not FUTA.

Sole proprietors can also see tax savings in connection with health insurance premiums for their spouses. If the employee-spouse purchases health insurance in their name and extends coverage to their employer-spouse, it can be written off as fully deductible to the business as a fringe benefit. An accountant at WendroffCPA can help you structure this.

Unfortunately, if you’re a small business owner and your business is a corporation (even if you control it) or a partnership (and your spouse isn’t the other partner) and you hire your spouse, you will need to pay employment taxes, including FUTA.

How to Create a Partnership with your Spouse
If one spouse owns a significant majority of the business, say 95%, and the other is managed or under the direction of the first, then this would be considered an employer-employee relationship versus a partnership. But if both spouses have equal direction in the business it would be considered a partnership, and you would file Form 1065 at tax time.

One other strategy would be to consider a “qualified joint venture,” which is easier to file than Form 1065 as it doesn’t require a separate tax form to be filed. With the QJV, both partners will receive credit for social security and Medicare coverage purposes.

There can be significant savings of hiring a child, spouse or parent to your small business, and the opportunity to work with family can be extremely rewarding. But always do the right thing for your business in terms of bringing in the right people whether they be family or not and making sure to create a transparent merit-based environment for all to succeed and progress in.

If you have questions about how to hire a family member, or any other business accounting related questions, please reach out to Darren Wendroff at darren@wendroffcpa.com or 703-286-5845.