Should I Put My Spouse or Children on the Payroll?
You may have heard that putting your child or your spouse on the payroll is a good idea because it can cut down on your tax obligations. Adding any new employee to your payroll will provide you with an extra expense that can decrease your taxable income. Because of your close relationship with a child or spouse, they may be the most accessible candidates to get on the payroll quickly. However, there are some nuances of taking this type of action that you should consider before you make this move.
Payroll Tax Benefits for Family Members
In addition to decreasing your tax obligations like other employees, hiring your family members has some extra tax benefits as well.
Children Employed by Parents
If you choose to employ your child who is under the age of 18, you do not have to pay Social Security and Medicare taxes for your child. However, this exception only applies if your company is a sole proprietorship or a partnership where both parents are the only partners.
If your child is under the age of 21, you also do not have to pay Federal Unemployment Tax Act (FUTA) tax. Nonetheless, you must still withhold amounts for general federal income tax at any age.
One Spouse Employed by the Other
If one spouse owns a business as a sole proprietor or S-corporation, then they can employ the other spouse without having to pay FUTA tax for them. However, you will still have to pay regular income tax withholding, Social Security, and Medicare taxes.
Parent Employed by Child
As a child who employs your parent, you do not have to pay FUTA tax for your parent. You will still have to pay other taxes, however.
Employee or Owner?
There is a significant difference between putting your spouse or child on the payroll and having them be an owner of your business. If the family member is an owner, then the entire structure of the company may change—often from a sole proprietorship to a partnership. If that is the case, then you may end up creating a partnership even without intentionally doing so. This type of consequence can mean different legal challenges, and it may mean having to file a partnership tax return as well.
The IRS will consider your child or spouse an owner if he or she has an equal say in the business and you both provide “substantially equal” services to the company. Equal or roughly equal capital contribution will also signify that your spouse or child is more than an employee as well.
Additional Items to Consider
There are other issues that you might want to consider before you make the decision as well. Some of these only indirectly relate to taxes.
- Retirement benefits. If you are contributing to your spouse’s retirement plan through your company, keep in mind that there are caps on how much you can contribute. For 2019, that amount was the lesser of either your spouse’s entire salary or roughly $56,000 (adjusted annually).
- Health Insurance Coverage. It may be cheaper to cover your spouse as an employee compared to having them on your own coverage as an owner. Keep in mind that company-paid premiums are not subject to Social Security, Medicare, or federal income tax withholding.
- Life Insurance. If you offer life insurance to your other employees, you can do the same for your spouse or child as well as part of a group term life insurance benefit program. This type of insurance coverage is not taxable for employees and is considered a business expense. There are caps on the premiums, however.
Drawbacks of Having Your Spouse or Child on the Payroll
While there are many benefits to having your child or spouse on the payroll, there are a couple of general drawbacks as well. For example, you will have to pay employment taxes for most employee-employer relationships, even if you are employing family. The cost of providing benefits to your spouse or child may not be worth the extra expense in some cases as well.
There could also be other personal disadvantages, such as private conflicts or trouble with treating your family member like your other employees.