It's a win/win: Give your children summer or part-time jobs at your business. They gain life and money-management experience and you and your organization obtain some tax benefits. Here is how splitting income can help you and your offspring.

---

face="Arial">    Put the Kids to Work

  

Let's assume your children don't mind being thought of as "the boss's kids," and you trust that they are mature and responsible and won't disrupt the smooth flow of your business. There are several advantages to hiring them for the summer or to work part-time during the school year, and all the benefits stem from one strategy: Income splitting.

Other Ways to Split Income

There are a couple of other strategies you  might want to consider for splitting business income with your children:    1. Pay bonuses: When you pay a bonus to a child, spouse or common-law partner, the money is a deductible business expense that reduces your company's taxable income and is taxed at the recipient's lower rate.    Moreover, year-end bonuses declared for shareholders can be paid out in the holder's next tax year, deferring taxes. Bonuses still need to be reasonable, given the amount and type of work done, or the CRA may deny them as corporate expenses.    The CRA will generally not question bonuses paid to shareholders who actively work in the business, but it may question payments to inactive shareholders. Bonuses paid to non-shareholding relatives are likely to be challenged.    2.  Pay dividends: If you run a small business corporation, you can pay dividends to a shareholding child, spouse or common law partner without worrying about attribution. The payouts are taxed at the recipient's lower rate, but are not a deductible business expense because they come from after-tax earnings    If they are paid to children under the age of 18, they are taxed at the highest marginal rate.

Control over Money

Pay your working children by direct deposit into their chequing accounts. This will demonstrate that they have control over the money.    If you pay "in kind," the payments are considered taxable "non-cash benefits." The fair market value of the payment is considered a benefit to the child and must be reported to the CRA.

By shifting assets from you (higher earner) to your children, (lower earners), you transfer income off your business-tax return and onto theirs, with their lower marginal rates. In addition, your organization gets tax deductions for the salaries it pays the kids. 

 

Income splitting also comes in handy as a way to:

• Teach the kids how to manage money, and
• Set up a partnership to work with your children toward financing their education and avoiding heavy student debt loads.

A bonus round: If your kids use their salary to pay for college or university, their tuition and other tax credits will help offset taxable earnings. If they don't use all their credits themselves, they do not just lose them.

They can carry forward leftover credits to use when they are working full time, earning more money and confronting larger tax bills. Or they can transfer unused credits to:

• You, your spouse or your common-law partner;
• A guardian;
• Their grandparents; or
• Their spouses or common-law partners.

The maximum tuition, education, and textbook amount transferred from each child is $5,000 minus the amounts used. Amounts carried forward cannot be transferred.

Teaching Money Management

Have your kids file tax returns, even if they don't owe taxes. This lets them open Registered Retirement Savings Plans (RRSPs) and gives them contribution room. By making contributions they will eventually become eligible for the Home Buyers' Plan, under which they can withdraw as much as $25,000 from their RRSPs to purchase a house.

You can open Registered Education Savings Plans (RESPs) for your kids any who are minors can contribute to them. They'll get a federal grant equal to 20 per cent of their annual contribution up to $500 until the calendar year they turn 17. There is a $7,200 lifetime grant limit. If the $2,500 annual contribution limit is made each year, the maximum grant level will kick in the fifteenth year. Check with your accountant to see if your province is one that pays additional RESP grants.

If you are making all the RESP contributions, have the children put aside some of their earnings aside for their education so they can avoid graduating college or university with massive amounts of student debt. Add to their money-management lessons by teaching them how to budget and having them start paying for their own haircuts, clothes, MP3 players, smart phones and other discretionary items.

Paying Salaries

Income splitting works with any business organization. It doesn't matter whether you operate as a sole proprietor, a corporation or a spousal partnership. All three business forms can pay wages to children. There are some criteria, however:

• The children must actually perform work for the business;
• The work must be legitimate; and
• Salaries must be reasonable for the duties performed and the hours worked.

Canada Revenue Agency (CRA) is not going to be receptive to a company that tries to claim it paid $100,000 a year to a 15 year old if there is reason to believe the primary reason was to reduce corporate taxable income. The agency is likely to be even less happy if it discovers a child is being paid for nonexistent work or that the claimed salaries were never paid.

Rule of thumb: Pay your children the same amount you would pay other employees with the same level of experience for the same job. If you pay more, count on the CRA asking you to justify the wages. Be sure your business withholds income tax, pension plan contributions and provincial payroll taxes that may apply.

Creating a Paper Trail

Hiring your kids requires some additional paperwork and expense. Your organization must keep good records of the services the children perform and the time they put in. Each child must be properly listed on the payroll, with deductions. In addition, keep attendance records to prove they were on the job when you say they were.
This tracking may seem like a nuisance, but it leaves a paper trail that should contain such critical pieces as:

• A contract specifying the work, remuneration, hours, conditions of employment, and benefits;
• Social Insurance Numbers;
• Tax Credit Returns; and
• Premium payments to Canada/Quebec Pension Plan (CPP/QPP) and Employment Insurance (EI) when the children turn. They may also contribute to the pension plans when they reach majority.

If you are not sure about a child's status for EI or pension purposes, you can obtain a ruling from the CRA district taxation office. If you want to challenge the ruling, you can file an appeal under the Canada Pension Plan and/or Unemployment Insurance Act.

Consult with your accountant. Income splitting can be complex and some techniques may be restricted by corporate attribution rules.