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  • Writer's pictureStephen Boatman

Kids, 0% Tax Brackets, and Kiddie Taxes

Updated: Jan 22

If you're a small business owner with kids, then it's good to know your options when it comes to possibly employing them. And how this employment impacts their taxes and yours. The positives of having time together and teaching them a good work ethic are great, but it can also move taxable income from your bracket to theirs. Below, we'll discuss what kind of work kids can do, how much you can pay them, what amounts qualify for a 0% tax bracket, and nuances when considering earned vs. unearned income.


What kind of work can kids do?

Kids are allowed to complete reasonable work at any age. Sometimes, this looks like baby modeling if you sell spill-proof sippy cups, or it could be helping clean up CRM systems, janitorial work, preparing client gifts, social media, marketing, etc.


How much can I pay them?

In 2023, children can earn up to $13,850/yr (standard deduction for single filers). FICA taxes aren't required to be withheld if the business is a sole proprietorship or single-member LLC. FICA taxes are required if the company is structured as a C-corp or S-corp. This payment is a deductible business expense, and the child will not be required to file a tax return if earned income is below the standard deduction.


What about retirement contributions? (Roth/Traditional IRA)

Kids will qualify for retirement contributions because they now have earned income. This means they could contribute their 0% taxed income into a Roth IRA and avoid taxes on these dollars their entire life! If your child makes a $6,500 Roth IRA contribution each year, from age 5 to 18, they could have over $120k saved by the time they are 18 (assuming a 6% return). And if they didn't contribute another dime between ages 18 and 60, it could easily be over $1.4 million (assuming a 6% return). Or you could pay your child $20,350 and contribute $6,500 into a deductible IRA while maintaining the 0% tax bracket.


Kiddie Tax


What is Kiddie Tax?

Kiddie tax is when unearned income moves back to the parent's income tax bracket to keep them from shifting too many capital gain-producing assets to their children's 0% tax bracket.


What about Unearned Income?

Unearned income only receives a 0% tax bracket for the first $1,250 in 2023. The next $1,250 is taxed at the child's tax rate, and any unearned income above $2,500 (in 2023) will be taxed at the parent's marginal income tax bracket. However, if the child has earned and unearned income, their maximum deduction is the earned income amount + $400 or $1,250, whichever is larger.


For Example.

Jon is 15, and in 2023, he has a stock portfolio with $600 of unearned income and $4,000 of earned income. His maximum deduction will be $4,000 + $400 = $4,400, and he will be taxed on the $200 of capital gain at his parent's income tax bracket.


Documentation

You must document their hourly wage and how they were paid. Try to make regular payments instead of one large payment at year-end.


Summary

The kiddie tax is one of the more complex rules in our tax code, and I highly recommend speaking with a CPA or EA before pursuing these strategies. However, paying kids or having capital gains accumulate under kids can be a great way to avoid taxes and help them save for their future. However, the rules must be followed, and good records must be kept for this practice to be implemented appropriately. Here is a helpful video that talks through more examples. Stay updated with Flat Fee Financial.


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