Tax Tip: Summer Employment for Your Dependent Child

Editor's Note: This article is part of our 2013 Tax Tips series. Robert Flach is an expert with almost 40 years of experience as a tax professional and also blogs as The Wandering Tax Pro.

NEW YORK (MainStreet)—Will your teen-age son or daughter be working during summer vacation?

The 2013 federal standard deduction for a dependent child with a W-2 is the greater of $1,000 or the sum of $350 and the dependent's earned income, not to exceed $6,100. The state filing threshold amount may be more of less than $6,100.

Also see: IRS Issues New Home-Office Deduction

Before starting work, your dependent will be given a Form W-4 to fill out. If your son or daughter does not expect to earn more than $6,100 during 2013, including up to $350 in interest, dividends and capital gains, have him or her claim "EXEMPT" on the W-4. This way he or she will not have to file a federal or state income tax return simply to get a refund of the income tax withheld.

Line 7 of the W-4 allows an employee to claim exemption from federal and state income tax withholding, if he/she had no income tax liability for 2012 and does not anticipate earning enough to pay income tax for 2013, by writing the word "EXEMPT" in the box indicated. Writing "EXEMPT" on the form means that the employer will withhold only FICA (Social Security and Medicare) and any required state unemployment and/or disability taxes from the student's wages.

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If your state tax filing threshold is less than $6,100, you can usually file a separate state Form W-4 to have state income tax withheld.

You should consider opening up a Roth IRA account for your working dependent son or daughter.

You can contribute 100% of your dependent child's earnings to the account, up to a maximum of $5,500. If your son earns $2,400 this summer you can contribute $2,400 to a Roth IRA for him. If he earns $6,000 you can contribute $5,500.

Also see: Ways to Reduce Your Tax Liability for 2013

There is no tax deduction for contributing to a Roth IRA, but if your child will not be earning more than $6,100, as discussed above, he or she won't need the deduction. Qualified future distributions from a Roth will be exempt from federal, and probably state, income.

You can use a Roth IRA to encourage your children to work or to save. If your son earns $5,000 in a part-time job, open a Roth IRA for him. Or, if your daughter agrees to put $2,500 of her salary from a summer job in a Roth, match it and put in another $2,500.

I must point out that once the child reaches the "age of majority," usually 18, he or she will have full access to all the funds and can clean out the account.

If you are self-employed you may have your kid(s) work for you during the summer. Hiring your kids is a great deduction for parents of minor children who have a net income-generating Schedule C business. It reduces your "self-employment tax" as well as your income tax.

If the child is under age 18, you don't have to withhold or pay FICA (Social Security and Medicare) taxes, and probably state unemployment and disability contributions, on the payments. Wages paid by a parent's unincorporated business to a dependent child under 21 are also exempt from FUTA (federal unemployment) tax.

You must pay your child for actual legitimate services performed for the business as an employee. The child must actually be paid the wages, and the amount of wages paid must be reasonable for the type of services provided. Routine family chores will not qualify, you cannot just claim a deduction and not actually give the money to the child (or deposit the money in the child's IRA account), and you are not allowed to pay your 10 year old son $50.00 an hour for sweeping up your office.

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It is very important that you "cross your t's and dot your i's" when it comes to documenting a deduction for wages paid to your dependent child. Forget that these are your kids, and treat them as you would any other employee. Here are some things you must do:

  • Create a written job description for each "position" outlining the duties and responsibilities involved.
  • Pay the kids on an hourly basis.
  • Use a time card or sheet to document hours worked and work performed.
  • Write a company check as payment each week or every-other week.
  • Even though the wages are not subject to FICA and FUTA tax or state unemployment and disability contributions, report them on all appropriate quarterly payroll tax returns, such as the federal Form 941 (you can indicate that the wages are exempt from FICA on the form), submit an annual federal Form 940 indicating the amounts paid as "exempt" and issue a W-2 to the children in January to report the wages paid.

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