You never forget the birth of your children. The circumstances of my three children’s birth were all unique, but there is one common thread that unites them. Each time I held them close, looked directly into their innocent eyes and whispered in their ear – “I’m dad. I will always love you. I will always protect you. I will spend the next 18 years using you as an IRS human shield”.
I know. It’s truly inspirational.
You already know that Uncle Sam Loves Side Hustlers. It turns out he loves their kids too. Let’s take a look at a few ways your children can become sweet, adorable tax shelters.
If you operate as a sole proprietor or a single member LLC, your kids can work for your business without owing FICA taxes on their earnings. When you combine that with the new individual standard deduction of $12,000, each of your children represents a legal means to decrease your tax bill by thousands of dollars.
Keep in mind we’re talking about legitimate work done for a reasonable wage that could actually be performed by your child. You can’t pay your toddler $12,000 to be your executive assistant because she helped you check the mailbox one day. Likewise you can’t deduct their allowance as salary because making the bed is not a business related task.
Here are just a few ways your kids can earn legitimate income from your side hustle:
Do you own a rental property? Pay your teenager to paint, mow the lawn, weed the flower beds, etc.
Do you and your spouse own a franchise? Each burger your kid flips is lowering your taxes.
Do you have a thriving expert witness side hustle? If you need someone to do clerical work it might as well be your teenager.
Does your business advertise? Pay your children modeling fees to be in the ad.
Backdoor Roth….for Kids?!?
The standard deduction allows your child to earn $12,000 tax-free. Surely it makes sense for them to contribute to a Roth IRA. They’ll never be in this low of tax bracket again and there is no benefit to them to contribute to a tax deductible traditional IRA.
But what if a backdoor Roth allowed you to transfer more money to your children to minimize your taxes?
Step 1: You pay your child $17,500 for legitimate work
Step 2: Your child contributes $5,500 to a tax deductible traditional IRA
Step 3: Your child pays $0 income tax on their remaining $12,000 of income.
Step 4: Your child converts their traditional IRA to a Roth, generating $0 in tax.
Now you’ve converted $17,500 of side hustle income (and ~$6,000 of income taxes) into a tax deduction. I have three children. When they’re older I can potentially convert $52,500 of income into a $52,500 tax deduction and create $16,500 of Roth IRA contributions for my family without anyone paying a single cent of income tax on that money.
Child Tax Credit
Uncle Sam Loves Side Hustlers, but he also pities parents. It’s hard raising kids. It’s also really expensive. They have this pesky desire for food, shelter and clothing at all times. The new child tax credit is $2,000 per child under the age of 18. I’ll admit that I spend more than $2,000 on each of my kids every year. If the federal government wants to give me a kickback for simply doing my parental job, who am I to refuse? It would be downright unpatriotic!
Previously many physician households made too much money to qualify for the child tax credit. The new tax laws have upped the income limit to $400,000 for a married couple filing jointly.
Childcare Tax Credit
If you and your spouse both work, you can deduct the costs of childcare. Depending on your income you can deduct 20-35% of the first $3,000 you spend for one child or $6,000 you spend on multiple children.
Most working parents would love to only spend $3,000 a year on daycare. Free money is free money, so don’t turn it down if you qualify.
American Opportunity Tax Credit
One reason not to over-save in your child’s 529 account is to take advantage of the American Opportunity Tax Credit. If you pay cash for part of your child’s college education you can get up to $2500 per year in a tax credit.
The income limitations are not nearly as generous as those of the child tax credit. Currently the income cutoff is $180,000. I make significantly more than that these days, but my kids are only 8, 2 and 1. My goal is to reach FIRE by the time my youngest starts college. When my income drops back down to earth I will be able to scoop up this tax credit for years of savings.
Kids are Expensive
The Department of Agriculture estimates that the cost of raising a child born in a middle class family in 2015 will be $233,610 by the time they reach adulthood. No sane person is having kids to save money. Taking advantage of these tax savings simply helps take some of the sting out of these expenses.