Hiring Your Kids in Your Business: The Complete 2026 Tax Guide for Indiana Families

 If you own a small business and have kids, this might be the most valuable tax strategy you're not using. When done correctly, you can deduct your child's wages at your tax rate, your child pays little or no tax on those wages, and the money stays in the family. It's one of the few places in the tax code where the same dollar can be both deductible and (effectively) tax-free. 

But the rules differ significantly depending on your business structure, your child's age, and how much you pay them. Here's how it works, what the IRS requires, and how Indiana families can stack additional benefits on top. 

The Basic Strategy 

You hire your child to do real work in your business and pay them a reasonable wage. Your business deducts the payment. Your child reports the income on their own return, but thanks to the standard deduction — $15,750 for 2025, $16,100 for 2026 — they owe zero federal income tax as long as they have no other income. 

Example: You're in the 24% federal tax bracket. You pay your child $15,000 for legitimate work in your business. You deduct $15,000 and save $3,600 in federal income tax. Your child pays $0 in federal income tax on that $15,000. The $3,600 stays in your family instead of going to the IRS. 

The savings get even bigger if your business is structured as a sole proprietorship or a qualifying partnership (more on that below). 

Your Business Structure Changes Everything 

This is where most online advice falls short. The payroll tax treatment depends entirely on how your business is organized. 

Sole Proprietorship or Spouse-Only Partnership. If your child is under 18, wages you pay them are exempt from Social Security and Medicare taxes (FICA). If under 21, they're also exempt from Federal Unemployment Tax (FUTA). This is the most tax-efficient structure for hiring your kids. Your only tax cost is Indiana state and county tax on the child's earnings — and even that can be reduced (see the Indiana section below). 

S Corporation or C Corporation. FICA applies to your child's wages regardless of their age. That means both the employer portion (7.65%) and the employee portion (7.65%) must be paid. You still get the income tax deduction at your higher rate, so the strategy is still worthwhile — you just lose the FICA exemption. 

Example (S-Corp): Same $15,000 wage. You deduct $15,000, saving $3,600 in federal income tax. But you pay roughly $1,148 in employer FICA and your child pays $1,148 in employee FICA — a combined $2,296 in payroll taxes for the family. Net family savings: approximately $1,304 federally. (Note: the employer FICA is itself a deductible business expense, which improves the math slightly.) Still a good deal, but not nearly as powerful as the sole proprietorship. 

Partnership with Non-Spouse Partners. The FICA exemption does not apply. Wages are subject to the same payroll taxes as any other employee. The income-shifting benefit remains. 

Single-Member LLC. If your single-member LLC is disregarded for tax purposes (the default), final IRS regulations treat the parent-owner — not the LLC — as the employer for purposes of the family employment FICA exemption (Reg. § 31.3121(b)(3)-1(d)). This means the exemption for children under 18 should apply the same as it does for a sole proprietorship. Note that the IRS Family Employees webpage only references sole proprietorships and partnerships — it doesn't explicitly mention disregarded LLCs. If you have questions about how this applies to your LLC, give us a call. 

The Roth IRA Angle: This Is Where It Gets Powerful 

When you pay your child a wage, that wage is "earned income" — which means your child can now contribute to a Roth IRA. For 2025, the maximum Roth IRA contribution is $7,000. For 2026, it's $7,500. Your child can contribute up to the lesser of their earned income or the annual limit. 

Think about the compounding. If your 14-year-old contributes $7,000 to a Roth this year and earns an average 8% annual return, that single contribution could grow to roughly $348,000 by age 65 — and qualified withdrawals after age 59½ are completely tax-free. 

You can make this even easier by funding the Roth yourself. Pay your child $15,000 for work, then gift them $7,000 to deposit into their Roth. The gift provides the cash, but your child's eligibility to contribute comes from their earned income — they must have actually earned at least $7,000. The child has spending money and a retirement account that will grow tax-free for 50+ years. 

The College-Age Child Strategy (This One's Big — But Complex) 

Our year-end newsletters cover this in detail, and it's worth highlighting here because it can stack multiple benefits for Indiana families. However, this strategy has more moving parts than the basic approach, so call us before implementing it. 

The idea: if you're self-employed, your family has health insurance through Healthcare.gov, and you hire your college-age child — paying them enough that the child provides more than half of their own support for the year — then the child may no longer be your dependent. This is not automatic. Whether your child qualifies as your dependent depends on several tests, including the support test: the child must provide more than half of their own support. Earning $15,750 doesn't automatically meet this test — it depends on total support costs (tuition, room, board, insurance, etc.) and who actually pays them. This is a facts-and-circumstances analysis. 

If the child truly is no longer your dependent, a cascade of potential benefits opens up: a marketplace health insurance subsidy based on the child's own lower income (potentially worth $3,000+), the American Opportunity Credit on the child's own return (up to $2,500, with up to $1,000 refundable — though the refundable portion may be limited if the child is subject to the kiddie tax), Indiana 529 CollegeChoice credit savings, the child's own HSA contributions (an individual cannot contribute to an HSA if they can be claimed as a dependent — so this only works if the child truly is not your dependent), and Roth IRA contributions ($7,000 for 2025, $7,500 for 2026). 

The trade-off you need to weigh: If your child is no longer your dependent, you lose the child tax credit ($2,200 for qualifying children under 17, or the $500 credit for other dependents age 17+). You also lose the ability to claim education credits on your own return. The combined benefits of the self-claim strategy often exceed what you give up — but not always. We need to run the numbers for your specific situation. 

Caution: You can't pay your child more than you would pay anyone else for the same work. And the child must actually perform work for you. Ignore this idea entirely if your child doesn't do any real work in your business. 

What the IRS Requires (Don't Skip This) 

The IRS is well aware of this strategy. If you're going to use it, you need to follow the rules carefully. 

The work must be real. Your child must perform actual, legitimate work for the business. Common roles include social media management, data entry, filing, photography for marketing materials, cleaning the office, mowing the lawn for a rental property, inventory management, and customer follow-up. The work must be age-appropriate. 

The pay must be reasonable. You must pay what you'd pay a non-family employee for similar work. A 12-year-old filing papers for $50/hour won't survive an audit. Look at local job postings for comparable part-time work and document the basis for whatever rate you set. 

Keep records. Maintain time sheets, a written job description, and pay records. Your child is an employee, not a contractor — use a W-2, not a 1099. Have your child complete a Form W-4 and withhold income tax accordingly. If your child expects to owe no tax (because their total income will be under the standard deduction), they may be eligible to claim exemption from withholding on their W-4. 

Follow child labor laws. Federal rules restrict hazardous work and set limits on hours for workers under 16. There is a parental exemption that permits parents to employ their own child under 16 in non-hazardous, non-manufacturing work, but Indiana state rules may be stricter in some cases. 

Indiana-Specific Benefits to Stack 

Indiana families can layer additional savings on top of the federal strategy. 

Indiana 529 CollegeChoice Credit. Once your child has earned income and files their own return, they can contribute to their own Indiana CollegeChoice 529 account and claim up to a $1,500 Indiana tax credit ($7,500 contribution × 20%). Even better — as we explain in our newsletters — you don't need to leave the money in the 529 to get the credit. Contribute $7,500, withdraw it for qualifying education expenses, and save $1,500 in Indiana tax. 

Indiana State Tax. Indiana's flat income tax rate is 3.00% for 2025 and 2.95% for 2026, plus county tax. Even at these rates, the 529 credit and the standard deduction can eliminate most or all of your child's Indiana tax liability. 

What About Hiring Your Parents? 

This is a related strategy from our newsletters worth mentioning. If your parent helps in your small business, you can pay them for their labor. This gives your parent earned income, which allows them to contribute to a Roth IRA — up to $7,000 for 2025 ($8,000 if age 50 or older), projected to be $7,500 for 2026 ($8,600 if 50+). Have them list you as the beneficiary. This creates a way to get more money into a Roth for your eventual benefit. 

A few caveats: Your parent can change the beneficiary at any time. And under the SECURE Act, most non-spouse beneficiaries of inherited Roth IRAs must drain the account within 10 years of the owner's death — so the funds won't grow indefinitely. Still, a 10-year window of tax-free growth on an inherited Roth is a valuable benefit. If both parents are alive and both work for you, each can contribute to their own Roth. Same rule applies: the pay must be reasonable for the work actually performed. 

Frequently Asked Questions 

Can I hire my 10-year-old? Yes, as long as the work is real, age-appropriate, non-hazardous, and the pay is reasonable. Filing, organizing, cleaning, and similar tasks can work. Document everything. 

Does this work for rental properties? Generally yes, if you're actively managing the property. Your children can help with mowing lawns, painting, cleaning between tenants, managing listings, and similar tasks. The key requirement is that your rental activity rises to the level of a trade or business — a purely passive, triple-net-lease arrangement may not qualify. Most hands-on landlords meet this standard. 

What if my child already has a summer job? They can have income from multiple sources. Just remember that the standard deduction ($15,750 for 2025) covers all their income combined. If they earn $10,000 from a summer job and $6,000 from your business, their total income is $16,000 and they'd owe a small amount of federal tax on $250. 

Should I set up a separate bank account for my child? Yes. Pay your child by check or direct deposit into their own account. Cash payments are harder to document and more likely to raise questions in an audit. 

What about the "kiddie tax"? The kiddie tax applies to unearned income (investments, interest, dividends) — not earned income from wages. Your child's wages from your business are earned income and are not subject to kiddie tax rules. 

What You Should Do 

1. Identify real tasks your child can perform in your business. Write a job description. 

2. Set a reasonable hourly rate based on what you'd pay a non-family member. Document how you determined the rate. 

3. Set up payroll. Your child is a W-2 employee. Withhold income tax and, if applicable, FICA. 

4. Open a Roth IRA for your child and fund it with some of their earnings. The earlier you start, the more powerful the compounding. 

5. If your child is college-age and you're self-employed with marketplace insurance, call us before implementing the self-claim strategy. The potential savings are significant — but it requires careful analysis of the support test, the trade-off with dependent credits, and the interaction with education credits and the kiddie tax. 

   
   

If any of these ideas seem applicable, please reach out to us so that we can sort through the details with you. Every family situation is different, and the savings depend on your entity structure, your tax bracket, and your child's age and income. Call us at 317.867.5427. 

IRS Circular 230 Disclosure: Pursuant to requirements imposed by the Internal Revenue Service, any tax advice contained in this communication is not intended to be used, and cannot be used, for purposes of avoiding penalties imposed under the United States Internal Revenue Code or promoting, marketing, or recommending to another person any tax-related matter. Please contact us if you wish to have formal advice on these matters.