Business Year-end Tax Tip: Income Shifting to Children

If you are a business owner, you should be spending time in November and December thinking about year-end tax planning for 2016.

Paying wages to a child can be a great way to shift income and reduce your tax liability. Many people don’t pursue this option due to misunderstanding the “Kiddie Tax”rules; however, the “Kiddie Tax” only applies to investment income, not earned income such as wages from employment. The wages paid to a child are deductible if the following criteria are met:

• The wages are paid for work performed that is related to the parent’s trade, or business.
• The child must actually perform the services.
• The wages are actually paid out to the child.
• The compensation being paid must be reasonable for the services being performed.

What are the advantages of doing so?

• First, the income paid to your child is either taxed at your child’s lower rate, or escapes taxation completely if the total amount paid for the year is less than the child’s standard deduction ($6,300 for 2016).
• Now that the child has earned income, he/she can make contributions to a retirement plan. This is a great way for you to jump start retirement savings for your child.
• Finally, you get the deduction at the business level for the amounts paid to your child. You have shifted the income from your higher tax bracket to their lower bracket.

Davis & Hodgdon Associates CPAs has been assisting business owners with tax savings strategies for more than 25 years. Call our office at (802) 878-1963 in Williston, Vermont or (802) 775-7132 in Rutland, Vermont for more information and to schedule a strategy session.

We highly recommend having a year-end projection completed to ensure that you are in the best possible position for your 2016 return(s).