Paying Your Kids $15,500: The Right Way

If you own a business and have kids, there's a strategy you've probably half-heard about at a barbecue: put your children on payroll, deduct their wages, and hand them income that's taxed at their rate instead of yours. It's real. It's in the code. And it's one of the most badly implemented ideas in small-business tax planning, because most people who try it do it wrong and get challenged.

Done properly, it's close to bulletproof. Here's the difference.

Why the naive version gets challenged

The appeal is simple: wages paid to your children are deductible to the business and, up to the standard deduction, effectively tax-free to the child. But two things trip people up. First, if you pay the kids directly out of an S corporation, you're on the hook for payroll taxes you didn't need to owe. Second, if there's no real work, no documentation, and no reasonable wage, the IRS treats the whole thing as what it looks like: moving money to your kids and calling it a deduction.

Casual 'paying the kids' arrangements get challenged. Properly structured ones don't. The structure is the entire game.

The right structure: a family-management LLC

Instead of paying the children from the operating S corp, you form a separate family-management LLC, taxed as a sole proprietorship. The operating company pays the LLC a management fee; the LLC employs your kids. Because wages paid by a parent's sole proprietorship to a child under 18 are exempt from Social Security and Medicare taxes, that payroll-tax trap disappears. The work has to be real (filing, light marketing, social media, cleaning, whatever genuinely fits their age), and the wage has to be reasonable for that work. Document it like you would any other employee.

The numbers

Take an S-corp owner with two children, ages 10 and 12. The family-management LLC employs them for $15,000 each. That's a $30,000 deduction to the business and $30,000 of income to the kids that falls under the kiddie-tax and standard-deduction thresholds, roughly $10,000 in tax savings a year, every year the kids are eligible. Route it into a Roth IRA for them and you've also started a tax-free compounding engine two decades early.

A caveat worth stating plainly: this is a documented, defensible strategy, not a loophole, and it only holds up if the work is real, the wages are reasonable, and the entity is structured correctly. It's exactly the kind of thing a good advisor and CPA build together. Done casually, it's a liability. Done right, it's one of the cleanest deductions a business-owning family has.