Hiring Your Children: Tax-Free Income, FICA Exemption, and the Sole Proprietorship Advantage
Hiring children to work in a family business is one of the few strategies that creates a deduction for the parent while generating tax-free income for the child. A sole proprietorship (or single-member LLC taxed as a sole proprietorship) that employs a child under age 18 is exempt from FICA taxes on the child’s wages, and the child pays zero federal income tax on earnings up to the standard deduction amount ($15,000 in 2025). The business deducts the wages as an ordinary expense, reducing both income tax and SE tax.
Hiring children: tax benefits and rules:
FICA and FUTA exemptions (IRC 3121(b)(3) and 3306(c)(5)):
- Children under age 18 working for a parent’s sole proprietorship: exempt from FICA (Social Security and Medicare)
- Children under age 21 working for a parent’s sole proprietorship: exempt from FUTA
- These exemptions DO NOT apply if the business is a corporation (including S-Corp) or a partnership where both parents are not the only partners
Income tax benefit for the child:
- The child’s standard deduction in 2025 is $15,000
- A child earning $15,000 or less from the family business owes $0 in federal income tax
- Combined with the FICA exemption, the first $15,000 of wages is completely tax-free to the child
Deduction benefit for the parent:
- The $15,000 in wages reduces Schedule C income
- At a 32% combined rate (24% income + 7.65% SE), the deduction saves $4,800
Requirements:
- Real work. The child must perform actual services. Filing, cleaning, data entry, social media management, product packaging, labeling, and assisting at events are common legitimate tasks.
- Reasonable pay. The rate must be reasonable for the work performed. $10-$20/hour for age-appropriate tasks is generally defensible. Paying a 10-year-old $50/hour is not.
- Documentation. Maintain time records, a job description, and pay records. Treat the child as you would any other employee (except for the FICA/FUTA exemptions).
- W-2 required. Issue a W-2 at year-end. File Form 941 (quarterly payroll return) even though the FICA amount is $0 for exempt wages.
What does the complete strategy look like?
The most important requirement is that the work is real and the pay is reasonable. The IRS has disallowed deductions where children were “employed” but had no documented duties, no time records, and no evidence of actual work performed. Courts look for the same evidence they would in any employer-employee relationship: time sheets, job descriptions, and output consistent with the hours claimed.
What are the ongoing compliance costs of an S-Corp versus a sole proprietorship?
An S-Corp requires a separate federal tax return (Form 1120-S), which typically costs $500 to $1,500 in preparation fees. You also need a payroll service for the owner’s reasonable salary, running $500 to $2,000 per year depending on frequency and state requirements. Some states charge an annual S-Corp franchise tax or filing fee (California’s is $800 minimum). A sole proprietorship files Schedule C on the personal return with no separate payroll obligation, making it significantly cheaper to maintain. The S-Corp makes financial sense when the FICA savings on distributions exceed these additional costs, which usually happens at net profits above $50,000 to $60,000.
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Yarik Yarosh, CPA. "Hiring Your Children: Tax-Free Income, FICA Exemption, and the Sole Proprietorship Advantage." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-hiring-children-tax-benefits
This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.