If you are a successful business owner, you are likely looking for a way to pay fewer taxes. Hiring your spouse to work in your small business can be a smart tax move for many business owners. To make these tax-planning strategies work, your spouse must do actual work in your business, and you must structure their pay and benefits correctly.
Offering tax-planning guidance to high-income business owners for the last 20 years, I often see situations where both spouses work for the business, but often just one spouse is officially getting paid. This may be the more straightforward way to run payroll, but it is a costly strategy when it comes to taxes on your business income each year.
Keep reading for ways to minimize taxes by hiring your spouse to work for your business. Or perhaps, this is just formally paying your spouse for all the work they already do in the family business.
1. Double Your Tax Savings from Retirement Accounts
You can likely double your retirement plan contributions if you officially hire your spouse to work in the business. You will likely double your tax savings when you double your pre-tax retirement plan contributions.
For high-income-earning business owners looking to get the most significant tax break, check out the Solo 401(k), which can allow contributions of up to $66,000 in 2023. For business owners 50 or older, there is also an additional $7,500 catch-up contribution allowable in 2023. These numbers can potentially be doubled if both spouses work in the business.
For those looking to save even more on taxes, consider setting up a Cash Balance Pension Plan. These may allow you to contribute several hundred thousand dollars each per year. Age, income, and overall Cash Balance Pension Plan design will determine specific contribution limits.
Not all financial advisors have the expertise or ability to properly design and implement a 401(k) or Cash Balance Plan. If your current financial advisor is unwilling or unable to help you optimize your retirement plan, do your financial future a favor and find a Certified Financial Planner specializing in tax planning for business owners.
2. You Can Pay Benefits Rather Than Wages
There are many scenarios when a business owner can pay tax-free employee benefits rather than taxable wages. Hiring your spouse can double these benefits. For example, health insurance is fully deductible to the business but is not taxable income for you or your spouse.
You may be able to offer fringe benefits that are tax-free to your employees (including your spouse). For example, the premiums on $50,000 of life insurance for each employee can be deductible for the business. Likewise, education expenses related to your business may also be tax deductible.
3. Increased Social Security Income in Retirement
Hiring your spouse to work in your business may help increase the Social Security benefits your spouse is entitled to receive in retirement. When claiming Social Security, married people can choose between claiming Social Security based on their work history or claiming a benefit based on half of their spouse’s Social Security benefits. Paying your spouse, in many cases, will help increase their Social Security benefits in retirement. This is especially true if they have earned income from previous employers.
Related: How Much Salary Should Business Owner Take To Maximize Social Security?
How To Show Your Spouse Is Really an Employee
The tax savings can be substantial from the three ideas listed above. Like anything with taxes, you will need to follow IRS guidelines to reap the rewards of the tax-planning strategies from hiring your spouse.
Here are a few things to reduce issues with the IRS around your spouse working in your business. Your spouse should be doing real work within the company. This could be things like bookkeeping, sales, to marketing. You should pay for the reimbursable expenses (like healthcare) from the separate business bank accounts. Lastly, your spouse’s compensation should be reasonable for work performed.
If you hope to pay fewer taxes in 2023 than in 2022, be proactive about your tax planning. Now is the time to get things in place to keep more of your hard-earned money. Tax planning is a great way to increase your take-home pay without working any harder.
Tax Benefits Of Hiring Your Children
For further tax savings, you may also want to consider hiring children or other family members for work they are doing in the family business. Making a $6500 ROTH IRA contribution, just one time, for a 16-year-old could potentially make them a millionaire by the time they reach the age of 70. This is without contributing any additional money to the account. Did I mention all of the money could be withdrawn tax-free from the ROTH IRA in this scenario?