Should You Pay Your Own Child Over $12,000 a Year?
Family child care providers can pay their own child for helping with their business. If your child is under age 18, you can pay him/her up to $12,950 a year tax free (2022 rate).
This money is not subject to federal income taxes and it's 100% deductible as a business expense!
But, watch out before you consider paying your child $12,950.
Family child care providers have always had the ability to hire others to help them with their business. This includes hiring family members.
But the IRS has always been suspicious when providers hire their own children because they assume children are paid an allowance rather than doing work for the business.
If you want to pay your own children, you should follow a series of steps to show that they did work for your business. This includes preparing a job description, tracking when the work was done and paying your child a reasonable amount.
Paying your child a reasonable amount now becomes a more important issue given the increase in the standard deduction for a single person to $12,000.
You could easily pay your child under age 18 the federal minimum wage of $7.25 per hour. If your state has a higher minimum wage, then you can pay this higher rate. Depending on the age of the child and the type of work being done, it could also be reasonable to pay $10-$15 per hour.
Be reasonable
However, payments to your own children need to be considered in light of your business profit. If your profit is $20,000, it is not reasonable to then pay your child $12,950. Or $10,000, or even $8,000. Would a reasonable business owner pay an employee $8,000 and keep only $12,000 for herself? I don't think so. And I don't think the IRS would either. If your profit was $60,000, then paying your child $12,950 makes more sense.
What is the proper amount to pay your own child under age 18? There is no hard and fast rule about this. I would use your federal or state minimum wage as a minimum payment, but no more than $15 per hour of work. And I wouldn't pay more than 30% of your profit in employee wages. (This is a rough rule of thumb.)
Note: if your profit is high enough, you can pay your own child more than $12,950, but amounts over this number will be subject to federal income tax.
What about paying your own child who is age 18 or older?
In this case, you must withhold Social Security/Medicare taxes and the child must report the income on her tax return. She may still not make enough to pay any federal income tax, but she will owe Social Security/Medicare taxes.
Summary
The big increase in the standard deduction for 2018 may tempt you to pay your own children under age 18 more money to take advantage of the tax benefits. However, you must be able to justify that the amount you pay is reasonable given your overall profit. And the more you pay, the more careful you should be in keeping the proper records.
Tom Copeland - www.tomcopelandblog
Image credit: https://www.firstthingsfirst.org/2021/08/daycare-an-outdated-term-that-doesnt-reflect-todays-child-care/
