How Much Can You Pay Your Kid Through Your Business?

Employing your child through your business can provide tax benefits and help instill a strong work ethic early on. However, determining appropriate compensation requires navigating regulations and ensuring compliance with federal guidelines. Understanding these rules is crucial for business owners who want to employ their children effectively while maximizing financial advantages.

Federal Wage Regulations

When employing your child, it’s important to understand federal wage laws. The Fair Labor Standards Act (FLSA) governs minimum wage, overtime pay, and child labor rules. As of 2024, the federal minimum wage is $7.25 per hour, though many states set higher rates. Businesses must comply with both federal and state laws, adhering to the higher standard where applicable.

The FLSA includes specific provisions for minors. Children under 14 are generally restricted from non-agricultural jobs unless working in a family business. For those aged 14 and 15, work is limited to outside school hours, with a maximum of three hours on a school day and 18 hours in a school week. These safeguards ensure employment does not interfere with education.

Employers must maintain accurate records of hours worked and wages paid. Timesheets and payroll documentation are essential to meet FLSA requirements and avoid penalties, such as fines or back pay.

Tax Withholding Implications

Employing your child also involves understanding IRS rules on tax liabilities. Wages paid to children are typically subject to federal income tax withholding, Social Security, and Medicare taxes. However, for sole proprietorships or partnerships owned by both parents, wages paid to children under 18 are exempt from Social Security and Medicare taxes, offering significant savings.

If a child’s annual income does not exceed the standard deduction threshold of $13,850 for 2024, they may not owe federal income tax, potentially eliminating the need for withholding. Parents should calculate the child’s total income, including unearned income, to determine withholding requirements. Using IRS Form W-4, the child can claim exemption from withholding if eligible, streamlining payroll processes.

There are also long-term financial benefits. Children can use earned income to contribute to a traditional or Roth IRA, jumpstarting retirement savings and benefiting from compound growth over time.

Applicable Exemptions for Family Businesses

Family businesses enjoy specific exemptions that can reduce employment costs. For sole proprietorships or partnerships consisting only of the parents, FICA tax exemptions mean wages paid to children under 18 are not subject to Social Security or Medicare taxes. This exemption allows families to allocate resources more effectively.

The FLSA also offers flexibility for family businesses, exempting them from some labor restrictions that apply to non-family employers. For example, children can work without the same stringent limitations, making it easier to integrate them into the business for part-time or seasonal work. This flexibility helps children gain valuable skills while supporting business operations.

Documenting Compensation for Compliance

Proper documentation of compensation is essential to ensure regulatory compliance. Employment agreements should clearly outline job duties, hours, and pay structures. These agreements protect the business and establish the legitimacy of the employment relationship.

A standardized payroll system is critical for tracking hours worked, wages paid, and deductions or withholdings. Using accounting software can streamline this process and ensure records are complete and accessible. Businesses following Generally Accepted Accounting Principles (GAAP) must record compensation accurately to reflect true financial obligations and maintain compliance with reporting standards.