Hiring your spouse to work as an employee in your proprietorship or partnership can be a strategic way to maximize tax savings while supporting your business operations. However, to reap the benefits and avoid IRS scrutiny, it's crucial to approach this arrangement correctly. Below, we outline four essential considerations to help you maximize savings and minimize audit risks.
Benefits Instead of Wages
One of the most effective ways to save on taxes is to compensate your spouse using tax-free employee benefits rather than taxable wages.
Why benefits matter: Tax-free benefits, such as health insurance, are fully deductible as a business expense for your company but are not considered taxable income for your spouse.
Payroll simplification: By compensating your spouse solely with tax-free benefits, you can avoid paying payroll taxes, filing employment tax returns, or issuing a W-2.
This approach simplifies your payroll process while offering valuable tax advantages.
Set Up a Medical Reimbursement Arrangement
Reimbursing health insurance and uninsured medical expenses is one of the most valuable fringe benefits you can offer a spouse-employee.
105-HRA Plan: If your spouse is your sole employee, consider establishing a Section 105 Health Reimbursement Arrangement (HRA).
ICHRA Option: For businesses with multiple employees, an Individual Coverage Health Reimbursement Arrangement (ICHRA) can be a great alternative.
These reimbursement arrangements allow your business to deduct these expenses while providing tax-free health benefits to your spouse.
Expand Beyond Health Benefits
Your spouse=employee can also benefit from a range of additional tax-free fringe benefits.
Education benefits: Reimbursements for education that is directly related to your business.
Life insurance: Up to $50,000 in group-term life insurance coverage is tax-free.
De minimis benefits: Small benefits, like occasional gifts, can also be tax-free.
These extra benefits not only add value for your spouse but also reduce your overall taxable income.
Ensure Your Spouse Is a Bona Fide Employee
The IRS requires you to demonstrate that your spouse is a legitimate employee to support the tax-deductibility of these benefits. To do so:
Prove ownership and control: You must be the sole owner of your business.
Real work matters: Your spouse should perform actual work under your direction and maintain a timesheet to document hours worked.
Proper payments: Medical reimbursements and other expenses should be paid directly from your business checking account.
Reasonable compensation: The value of the benefits provided should align with the work performed by your spouse.
By following these steps, you can ensure compliance while enjoying the tax advantages of hiring your spouse.
When structured correctly, hiring your spouse can help you reduce your tax burden and keep more of your hard-earned money working for your family. However, it's important to meet IRS requirements and handle the arrangement appropriately.
For personalized advice tailored to your unique business situation, contact our team. We're here to help you navigate tax strategies and identify opportunities to optimize your financial outcomes. Disclaimer: This content is for informational purposes only and should not be considered tax or financial advice. Consult a qualified tax professional for personalized guidance.
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