October 10, 2011

October 2011 Tax Tip

6 Tax Benefits of Hiring Your Spouse

Finding the right staff is a critical skill in building a successful company. And while you can use countless websites and staffing companies to vet potential hires, sometimes it’s as easy as looking across the dinner table.  Putting your spouse on the payroll not only brings in a dependable, trustworthy hire who you can (hopefully!) communicate with well to improve efficiency, there are also some major tax benefits that can save you thousands.

Along with being able to shift taxable income and accelerate retirement benefits, here are six great benefits of hiring your spouse.

Build up tax –favored funds for retirement
If you meet the tax-law requirements, your company can deduct contributions made to a qualified retirement plan on your spouse’s behalf. The annual limits are quite generous. If your company has a defined contribution plan, you can deduct contributions up to 25 percent of compensation or $49,000 whichever is less. With a 401(k) plan, another dollar limit applies: Your spouse can defer up to $16,500 to the plan (plus an extra $5,500 if he or she is age 50 or older). Your company can match those contributions wholly or partially up to tax-law limits.

Shift taxable income away from the company
If you operate a C corporation, any compensation you pay to your spouse would have to stay with the company. Assuming your corporation is in a higher tax bracket than your personal tax bracket, you’ll save tax overall if your spouse draws a salary. But don’t look for any income-shifting tax benefit – possibly a drawback – if your company falls in a lower tax bracket than your personal bracket.

Note: S corporation owners and sole proprietors don’t pay corporate income tax. You report business income on your personal return whether or not you pay your spouse a salary, so this could be a wash.

Get more tax mileage from business trips
Generally, you can’t deduct the travel expenses attributable to your spouse if he or she accompanies you on a business excursion. However, if your spouse is a bona fide company employee and goes for a valid business reason, you may deduct his or her travel costs, including air fare, lodging and 50 percent of the meal expenses. The benefit also is tax-free to your spouse.

Cure health insurance coverage ills
You can save plenty on health insurance and other benefits when you cover your family as employees. Not only will you qualify for broader plans at better rates, but you can write off the total cost of coverage as a business expense (vs. the 70 percent the IRS currently allows the self-employed) and establish a tax-deductible reimbursement plan to write off medical expenses not covered by insurance.

Join the employer-paid life insurance group
Your spouse is entitled to the same group-term life insurance coverage as your other employees. The first $50,000 of employer-paid, group-term coverage is tax-free to an employee. However, there is a catch for S corp owners: Generally you can’t deduct fringe benefits such as group-term life insurance for any employee who owns 2 percent or more of the company. By extension the rule also applies to an employee-spouse.

Honey, the kids shrunk the taxes
Having you and your spouse on payroll also makes you eligible for the Child Care Deduction. The size of the credit depends on two things – how much you pay for child care and your adjusted gross income. The maximum allowable credit for two or more children can be computed using up to $6,000 of qualified expenses.

A few rules to follow
The IRS supports hiring your spouse as a tax strategy, but the easiest way to flag the taxman is to pay an inordinate amount, pay for a fictitious job or compensate a family member who clearly could not perform the task (ie. Grandma should probably not be operating the forklift). In addition, the money you pay them must be in their control, otherwise, it’s still considered yours.

Be prepared to document all issues pertaining to your spousal hire, and keep all policies and procedures business like. You may actually consider interviewing your spousal or family hires as if they were non-relatives. Discuss what the job entails, short- and long-term goals, and pay range based on industry standards. The rules should apply to all: employees have to be qualified and they have to do their jobs well. Otherwise, they’re not hired. Even you’ll probably hear about it when you get home.

For more information on hiring your spouse or other tax strategies, please contact an associate at Wendroff & Associates at 703-553-1099. 

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