For many self-employed persons and small business owners, working and hiring family members can offer a level of comfort, familiarity, fun… and unique tax advantages.
That’s right: employing your family members can actually yield some significant tax benefits for your small business. How so? Are there special rules in place that limit the employment of family members? What are some situations in which you are exempt from normal taxation rules?
This article will answer these and other questions related to the tax implications of hiring family members. Let’s begin with the first and most important question:
Can I Put My Family Members on My Small Business’ Payroll?
In a word: yes.
Just to be clear, there are no laws against nepotism (aka, hiring family members and friends) in a privately owned business. We’re not talking about governmental positions or other offices of public trust here; hiring family members can be both legally protected and ethically unassailable.
Of course, when you hire family members to work in your business, then you must mentally differentiate between the two roles that they now play: your family member and your employee. In that regard, there are certain guidelines that you need to follow to keep everything on the up and up.
Special Rules that Apply when Hiring Family Members
In general, there are not a lot of special rules that you need to memorize when it comes to employing a family member. For the most part, you’ll need to treat your family member the same as you would any other employee. For instance, you’ll need to:
- Obtain a W-4 form from each family member and withhold federal and state income taxes based on the allowances they choose.
- Withhold the appropriate amount of FICA taxes from each family member’s paycheck. In other words, you’ll still (generally) have to withhold and pay Social Security and Medicare taxes on the wages you pay your family. We’ll discuss exceptions later on in this post.
- You’ll also have to factor in family member pay when you calculate the unemployment (FUTA) and workers’ compensation taxes that your business must pay in.
- When your family members work overtime for you, you’ll have to pay them at the same rate as you would other employees (1.5 times the base rate after 40 hours in a workweek).
There is one major consideration that you’ll need to take into account when it comes to hiring your child. Federal child labor laws provide strict guidelines on when and how long children can work, as well as what type of work they are allowed to perform. For example, children under 14 years of age are not allowed to work in any type of business, and children under 18 cannot operate dangerous equipment (such as many types of power-driven equipment).
When Do I Have to Pay Taxes, and What are Some Exceptions?
As mentioned above, even though you’ve hired a family member, you may still have to pay all of the normal payroll taxes associated with hiring a regular Joe off the street. For instance, if your child works for a family estate, or for your business that happens to be a corporation, then you’ll need to pay all the regular taxes on his or her wages. The same applies to a partnership unless each partner is a parent of the child.
Similarly, if your business is a corporation or any type of partnership, then you’ll need to pay all the regular taxes for your spouse if he/she is employed by your company.
Nevertheless, there are notable tax exemptions that are associated with potentially hiring a family member. These include the following:
- If your business is a sole proprietorship or an LLC taxed as a partnership, then you can hire your child and simultaneously avoid the payroll tax. In fact, you can pay your child up to $6,300 per year without having to pay Medicare or Social Security taxes. (Of course, it’s important to make sure that your child’s job is age-appropriate and that he or she is actually performing meaningful work for your company.)
- When one spouse is employed by another and is not an employee of a corporation or partnership, then the business owner is not required to withhold FUTA (unemployment) tax for the spouse.
- When a parent is employed by a child in any trade or business, the child is not required to withhold FUTA tax on behalf of the parent.
After considering the tax benefits and special rules that apply to employ family members in your small business, you may decide that working along with your child, spouse, or parent is not only a good way to keep the business in the family, but is also an excellent method of lowering your tax burden.
Of course, as with all things tax-related, there are specific rules, exceptions, and principles that govern every conceivable situation. For that reason, it’s always a good idea to check with an experienced CPA before taking the plunge. If you have questions about employing family members, or any other tax or payroll-related matter, reach out to us at Cirrus Payroll for more information. We’d be happy to help.