This is Jean Wetzler. I’m talking with Cheryl Sherwood about employing family.

Cheryl, tell us about the tax implications of employing family members. Are there advantages?

Yes. A big advantage to operating your own business is the ability to hire family members. The tax requirements for family employees may differ from other employees.

The rules vary, depending on the family relationship – a child working for a parent; spouse for spouse; parent for child. The business entity type – sole proprietorship, partnership, etc. – also has an effect.

Let’s start with a child working for a parent. What rules apply?

Payments for the child’s services are subject to income tax withholding, regardless of age.

If the child is under 18, and working for a parent in a trade or business, payments are not subject to Social Security and Medicare taxes. That’s if the business is a sole proprietorship, or a partnership in which each partner is the child’s parent.

If the child is under 21, payments for services are not subject to FUTA – that’s federal unemployment – tax.

However, if your business is one of three types, you must withhold income tax, Social Security, Medicare and FUTA taxes from your child’s wages.

This applies to:

A corporation, even if it’s controlled by the child's parent,

An estate, even if it’s the estate of a deceased parent, or

A partnership, if one of the parents is a partner. You’ll recall that I mentioned earlier that this doesn’t apply if both parents are partners. 

All right – let’s switch it around. How do the rules differ if a parent is working for their child?

If the child employs the parent in a trade or business, then the child withholds income tax, Social Security and Medicare taxes. Wages paid to the parent are not subject to FUTA tax, regardless of the type of services provided.

Now, if your parent works for you in some other capacity that’s not related to your business, you generally won’t have to pay Social Security and Medicare taxes. However, there are a couple conditions that apply to domestic services – for example, when your parent cares for your child – where you’ll have to pay those taxes. That information is all on the IRS Web site.

Last category: a spouse employed by a spouse in a trade or business. What are the rules here?

These wages are subject to income tax withholding, and Social Security and Medicare taxes, but not FUTA tax.

That’s unless the spouse works for:

A corporation, even if it’s controlled by the individual's spouse, or

A partnership, even if the individual's spouse is a partner.

Then, FUTA tax would apply, too.

These nuances are a lot to digest. What’s a good resource?

You’re right. And it is less complicated if you can see it all laid out.
Go to IRS.gov and  search for “Employing Family,” or “Business with Employees.”

You can also look in the forms and publications section of our Web site for Publication 15, Circular E, Employer’s Tax Guide, for comprehensive information.

Thank you, Cheryl. I’ve been talking with Cheryl Sherwood of the IRS. This is Jean Wetzler.