What You Should Know If You Employ Your Minor Child

A child under 18 working for a parent-owned unincorporated business is exempt from FICA and FUTA. Children under 21 are exempt from FUTA. Another advantage is that a child employed by a parent shifts income from the parent’s higher tax bracket to the child’s lower tax bracket. A recent court case illustrates the factors used by the courts when determining the deductibility of wages paid to minor children.

The taxpayer was a sole proprietor who worked as an attorney. She had three children, all of whom were under nine years old as of the close of the tax years in question. During summer school recesses, the taxpayer often brought her children into her office, usually for two hours a day, two or three days a week. While at the taxpayer’s office, the children provided various services to her in connection with her law practice. For example, the children shredded waste, mailed things, answered telephones, photocopied documents, greeted clients, and escorted clients to the office library or other waiting areas in the office complex. The children also helped the taxpayer move files from a flooded basement, they helped remove files damaged in a bathroom flood, and they helped to move the taxpayer’s office to a different location. The taxpayer did not issue a Form W-2 to any of her children for the years at issue. No payroll records regarding their employment were kept, and no federal tax withholding payments were made from any amounts that might have been paid to any of the children.

Separately from her law practice, taxpayer came up with the idea that parents traveling with children might be interested in travel books created for children, and she decided to write a series of children’s travel books each directed to a different destination in the United States or elsewhere. During the years at issue, the taxpayer traveled with her three children to Disney World in Orlando, Florida, and several cities in Europe. The purpose of each trip was to conduct research for a yet-to-be written children’s travel book. Before traveling to a particular destination, the taxpayer typically would complete a rough draft of a children’s travel book. She and the children used the rough draft to tour the area, and the taxpayer would record any helpful hints or other information she thought should be included in the final version of the children’s travel book that she planned to complete at some future date. The taxpayer also consulted with a book distributor, a graphic designer, and a book publishing company. She eventually completed at least four prototype travel books and sold some copies word-of-mouth to family and friends. She planned to hire an agent to promote her book but had not done so as of the close of the tax year for the year at issue.

The taxpayer deducted wages paid to her minor children against her gross income from her law practice. The taxpayer also reported net losses from her book writing activity. The IRS disallowed all of the deductions claimed for wages to her minor children, and disallowed all of the deductions claimed relating to her book writing activity.

The court noted that payments made to minor children by a related party for services rendered in connection with a trade or business might very well qualify for deduction. It all depends on the facts and circumstances surrounding the payments. The taxpayer did not present any evidence to show how much was paid to each child, how
many hours each worked, or what the hourly rate of pay was. Without payroll records detailing this information, the court cannot tell whether the amounts deducted were reasonable, especially when the ages of the children are taken into account. The taxpayer did not present any documentary evidence, such as bank account statements, canceled checks, records, or the filing of W-2s, to support the deductions.

The court said all things considered, the taxpayer has failed to establish entitlement to the deductions for wages to minor children claimed on Schedule C relating to the taxpayer’s law practice. However, the court said it was satisfied that each of the children
performed services in connection with the taxpayer’s law practice during each year at issue and each was compensated for doing so. Taking into account their ages, generalized descriptions of their duties, generalized statements as to the time each spent in the office, and the lack of records, the court ruled the taxpayer was entitled to a $250 deduction for wages paid to each child for each year. The court also looked at whether expenses related to the book writing activity were deductible. The court refused to consider the IRS argument that the book writing activity was a hobby. The court said at best (for the taxpayer), the expenses were for planning and
research in connection with the business she had in mind, but that the business had not yet started as of the close of the tax years at issue. Therefore, none of the expenses for the book writing activity were deductible.

The lesson learned is to keep meticulous records and documentation. Always consult your tax advisor if you are considering paying your children wages for working in your business.

I Just Got a Notice From IRS. What Should I Do?

The IRS mails millions of notices and letters to taxpayers every year.   This can be extremely upsetting when receiving this form of communication, whether it is from the IRS or any other taxing authority.  Here are some suggestions to help formulate specific action plan for any correspondence received from the IRS (or from your state or local taxing authority).

Don’t Panic: You can usually deal with a notice simply by responding to it. You should immediately contact your tax adviser to discuss this matter in more detail.  Waiting or ignoring the notice can only compound and complicate your tax problems.  Each notice has specific instructions, so read your notice carefully because it will tell you what you need to do.  Follow the instructions very carefully and give a specific and detailed response to the tax issue in question.

Your notice will likely be about changes to your account, taxes you owe or a payment request.  However, your notice may ask you for more information about a specific issue.  Only respond to the particular issue and do not provide or discuss issues that are not being raised by the IRS.  Do not assume that the taxes owed are correct.  In many cases, the IRS calculates taxes without all the relevant facts.

If your notice says that the IRS changed or corrected your tax return, review the information and compare it with your original return.  Just because the IRS says you owe taxes does not mean that they are correct.

If you don’t agree with the notice, you must respond within the time limit set out in the notice.  Write a letter that explains why you disagree, and include information and documents you want the IRS to consider.  Mail your response with the contact stub at the bottom of the notice to the address on the contact stub.  Always include a copy of the notice they sent you.  If a fax number is provided, use it. Allow at least 30 days for a response from the IRS.  The safest route is to have your tax adviser craft a well-conceived response that is supported with references to the relevant facts of your situation and the tax law in question.

If you agree with the notice, you usually don’t need to reply unless it gives you other instructions or you need to make a payment. If you choose not to respond to the IRS be sure you understand the IRS letter and its implications, because the next step from them is usually an assessment of additional taxes.

For most notices, you won’t need to call or visit a walk-in center. If you have questions, call the phone number in the upper right-hand corner of the notice. Be sure to have a copy of your tax return and the notice with you when you call.  Waiting time could easily exceed an hour.  Be careful when talking with the IRS; they are not your friend.  Only speak to the specific issues in question.

Warning:  Be alert for tax scams:  The IRS sends letters and notices by mail. They don’t contact people by email or social media to ask for personal or financial information.

If you need my assistance, I can be reached at ssiesser@verizon.net

IRS WARNS OF MORE SCAMS

The Internal Revenue Service issued a new warning Friday to taxpayers about bogus phone calls from IRS impersonators demanding payment for a non-existent tax that they call the “federal student tax.”  The IRS noted that scammers continue to use varied strategies to trick people, in this case students. In this newest twist, they try to convince people to wire money immediately to the scammer. If the victim does not fall quickly enough for this fake “federal student tax,” the scammer threatens to report the student to the police. “These scams and schemes continue to evolve nationwide, and now they’re trying to trick students,” said IRS Commissioner John Koskinen in a statement. “Taxpayers should remain vigilant and not fall prey to these aggressive calls demanding immediate payment of a tax supposedly owed.”

On Tuesday, the Treasury Inspector General for Tax Administration announced the arrests of five IRS phone scammers in Miami. Scam artists frequently masquerade as being from the IRS, a tax company and sometimes even a state revenue department. Many scammers use threats to intimidate and bully people into paying a tax bill, the IRS noted. They may even threaten to arrest, deport or revoke the driver’s license of their victim if they don’t get the money.

Some examples of the varied tactics seen this year are:

  • Demanding immediate tax payment for taxes owed on an iTunes gift card.
  • Soliciting W-2 information from payroll and human resources professionals
  • “Verifying” tax return information over the phone
  • Pretending to be from the tax preparation industry

The IRS is urging taxpayers to stay vigilant against these calls and to know the telltale signs of a scam demanding payment.

The IRS noted that it will never:

  • Call to demand immediate payment over the phone, nor will the agency call about taxes owed without first having mailed you a bill.
  • Threaten to immediately bring in local police or other law-enforcement groups to have a taxpayer arrested for not paying.
  • Demand that a taxpayer pay taxes without first giving the opportunity to question or appeal the amount owed.
  • Require a taxpayer to use a specific payment method for taxes, such as a prepaid debit card.
  • Ask for credit or debit card numbers over the phone.

If taxpayers get a phone call from someone claiming to be from the IRS and asking for money and the taxpayer doesn’t owe taxes, here’s what to do:

  • Do not give out any information. Hang up immediately.
  • Contact TIGTA to report the call. Use the “IRS Impersonation Scam Reporting” web page or call (800) 366-4484.
  • Report it to the Federal Trade Commission by visiting FTC.gov and clicking on “File a Consumer Complaint.” Please add “IRS Telephone Scam” in the notes.
  • If you or a client thinks taxes are owed, call the IRS directly at 1-800-829-1040.