Hiring Your Children in Your Business

Does the Payroll Tax Break Survive an S-Corp?

No. Federal law exempts wages a parent pays a child under 18 from Social Security and Medicare, but only when the employer is a sole proprietorship, or a partnership in which every partner is a parent of that child. The exemption never mentions corporations, and an S-corporation is a corporation.

Here is what that costs in real money. A sole proprietor paying a 14-year-old $6,000 a year pays nothing in Social Security or Medicare on those wages. The day after the S-election, the same payroll costs about $918 withheld from the child and another $918 out of the company, because the full 15.3% now applies. Across three children over several years, that is a number worth knowing before you elect.

The federal unemployment exemption works the same way. It covers a child under 21 employed by a parent, and it is likewise unavailable through the corporation.

Practice pointer. Raise this at the S-election, not after. A proprietor who converts without a payroll briefing keeps running the same payroll and finds the cost in the first quarterly return. If children are already on the books, the entity decision and the payroll decision belong in the same conversation.

What Putting Your Kids on Payroll Actually Buys

The payroll tax cost does not spoil the arrangement. It changes the arithmetic, and the arithmetic still works for most business owners in a high bracket.

A deduction against your own income. The wage is an ordinary and necessary business expense, so it reduces the ordinary income that reaches your return. The employer payroll tax is deductible too.

Income taxed at their rate instead of yours. A parent in the 32% or 37% bracket paying a child taxed at 10% or 12% keeps the spread. That spread still exceeds the payroll tax drag in most cases, and the point is to run it honestly rather than assume the drag is zero.

Earned income, which is what a Roth needs. A child with earned income can contribute up to 100% of it to a Roth IRA, subject to the annual limit. A 15-year-old who earns and contributes has a fifty-year runway in front of them, and that is usually the part parents care about once they hear it.

The kiddie tax does not interfere here, because it reaches a child's unearned income. Wages are earned income and stay at the child's own rate.

What Makes the IRS Disallow Child Wages?

The Tax Court has said what it looks for, and the list is not about the strategy. It is about the file.

1. No information returns filed for the child.
2. A flat amount decided at the beginning of the year, rather than pay for services actually performed.
3. No correlation between when and how much you paid and the hours the child supposedly worked.
4. No adequate records of hours worked or amounts earned.
5. Paying the child for what are really routine family chores.

Read that list again and notice what is missing. There is no argument about whether children may be employees, and no threshold age below which it fails. Every one of the five is a record somebody did not keep, which means every one of them is preventable for the cost of a timesheet.

What Work Counts, and What It Should Pay

The wage has to be for services actually performed, at a rate comparable to what the same work would cost from somebody outside the family.

Work that holds up, scaled to age and ability, includes social media content and management, filing, scanning, data entry, inventory counts, customer service and phones, errands, and cleaning appropriate to the child's age.

What the file needs is a written job description, time sheets or calendar logs, contemporaneous records of what was done, and evidence that the rate is a market rate, which can be salary data or annotated job postings for the same work. Keep it in the company's records rather than the family tax folder.

Avoid reverse-engineering the wage from the tax result. Paying a 12-year-old $50,000 to "help with social media" fails on the rate alone, and the number invites exactly the scrutiny the rest of the file then has to survive.

What Forms You Have to File

The same ones any employer files. A W-2 for the child, the quarterly payroll return, and the annual federal unemployment return where it applies.

Two filings sit next to these and get missed for the same reason, which is that nobody owns the calendar. If the business is an S-corp, the return is due March 15 rather than April 15, and the S-corp filing deadline carries a per-shareholder, per-month penalty that runs whether or not the company owes a dollar of tax. And the money you take out for yourself follows different rules from the wages you pay your child, which is the subject of owner draw versus distribution.

In one Tax Court case the parents paid a child $4,000 and there was no indication they had filed a Form 940, a Form 941, or a W-2. The court treated the missing forms as evidence tending to show the payments were not wages at all. Skipping the filings does not make the arrangement simpler. It removes the proof that it happened.

Frequently Asked Questions

Sources of Law

• IRC §3121(b)(3)(A), Social Security and Medicare exemption for a child under 18 employed by a parent, available to a sole proprietorship or a parents-only partnership. §3306(c)(5), the comparable federal unemployment exemption for a child under 21. §3101 and §3111, the employee and employer shares. §3402(a), income tax withholding. §162 and Treas. Reg. §1.162-7, the deduction for reasonable compensation for services actually rendered. §1(g), the kiddie tax, which reaches unearned income only. §408A, Roth contributions from earned income. (retrieved 2026-09-01)
• Tax Court on family employment: Alexander v. Commissioner, 2006 T.C. Summ. Op. 127 (collecting the factors, and stating the FICA age as under 18 and the FUTA age as under 21); O'Connor v. Commissioner, 52 T.C.M. 499 (1986). ⚠️ A Summary Opinion may not be cited as precedent under §7463(b), and is used here to describe how these facts are approached rather than as binding authority.

What I See When Somebody Has Already Started

In 14 years of law practice, I have never had a client bring me this idea before they did it. They bring it after the first payroll, and usually after somebody at a conference told them the number.

A common question I hear is, "My accountant says I can pay each kid twelve thousand, is that right?" It is roughly right about income tax and it says nothing about the question I care about, which is what entity is signing the checks. I ask that first, because in an S-corp the answer changes by about fifteen cents on every dollar and nobody had mentioned it.

I have come across a case that shows how these end when the file is thin, and the part that stays with me is that the children really did the work. A man ran a vending machine business serving ten clients. His two minor children broke down cardboard and sorted the recycling, and the older one helped count the money. He deducted $4,200 for each of them. He testified they worked about ten hours a week, and then admitted he did not know for sure how often they worked and had kept no record of their hours. He paid them once a year at the end of December, and the checks sat uncashed for two months because the business did not have the money to cover them. The court said the amounts allegedly paid to his children had always remained in his control, disallowed the deduction, and added an accuracy penalty on top.

What strikes me about that file is that the family may well have had children who genuinely worked. They lost anyway, because the only contemporaneous record they kept contradicted their own testimony.

Practice pointer. Write the job description and set the hourly rate before the first payroll runs, and keep the timesheet in the company's records rather than at home. A file assembled after a letter arrives is worth very little, and the family that has one usually assembled it in the wrong order.

One honest limit. I set up the entity, the documentation and the employment terms. Whether the spread between your bracket and your child's actually beats the payroll tax in your numbers is arithmetic, and that belongs with your CPA. I would rather the two of us disagree in front of you now than have you find out from an examiner.

Kevin D. Klagge, Esq., admitted in Florida since 2012. Any case described above is a decision of a federal court rather than a matter handled by this firm. General information about federal law rather than advice on your situation.

Updated on September 1, 2026. Reviewed by Kevin D. Klagge, Esq., Fla. Bar No. 99502. Attorney Kevin Klagge represents families, businesses, and international clients in estate and tax planning, business structuring, and international law, with a focus on Florida legal tools. He litigates estate and business issues in court. General information about federal law, not legal or tax advice, and no attorney-client relationship is created. Payroll and employment tax treatment depends on your entity and your facts; coordinate with your CPA. Do not send confidential information until we have agreed to represent you.