Child Labor: work permits, OT, articles of incorporation and more.

Business owners who hire and pay their children can deduct the wages as a business expense, just as they would for any other employee.

For a child under 18 working in the parent's unincorporated business, there is the added advantage that the business owner doesn't have to deduct or pay Social Security taxes, SDI or unemployment insurance on those wages.

Depending on the amount paid, income tax withholding may be required. The business owner must keep records of hours worked and the hourly wage has to be rational. For example, paying a 15-year-old $100 per hour for emptying waste baskets is not rational.

The biggest problem with clients is that they think that there is some arbitrary amount that they can put onto their kids' W-2s, regardless of whether or not the child actually worked or at what rate of pay.

This attitude has been around for years, but it has received a boost recently by non-CPA tax advisers who tell their clients that they have an intrinsic right to show arbitrary amounts on their business income tax returns as expenses for wages paid to their children. While none of this is new to experienced readers, the next point may be.

Income tax auditors now generally ask for the work permits of the business owner's minor children who are shown as employees. For those of us who have forgotten that work permits exist, or didn't know in the first place, here is a brief explanation.

A school-age minor who works as a paid employee must get a work permit from the school. The controlling California statute is Labor Code Sec. 1394. The minimum age to receive a work permit is 12 for California purposes and 14 for federal purposes.

Labor Code Sec. 1394 is clear that a work permit is not required for agricultural, horticultural or domestic work. However, the part that seems to pertain to other family owned business is unclear.

Some say that the wording exempts family-owned businesses, but income tax authorities are interpreting the Labor Code as saying that employment in other than agricultural, horticultural or domestic work is not exempt from the work permit requirement.

The lack of clarity brings to mind the great legal principle: Factum Clarum, jus nebulosum--The clearer the facts, the more muddled the law.

The attorneys who participate on TaxTalk agree that if the IRS and FTB interpretation is that children working outside of the above three areas must have work permits, then it's probably best to get the work permits.

One CPA's story that focused everyone's attention on this matter was the instance of a client who lost a deduction of $3,000 for wages paid to his school-age children for office work because he didn't have work permits for them.

The unanswered question is what to do about one's children under age 14 who work in the family business.

One old hand suggests hiring the child, but not paying the child for more than a couple of hours a day on a school day, or more than four or five hours on a non-school day; let the child keep his or her earned money; and never use an underage child's own money to pay for his Roth IRA.

Computing OT Hours

An employee worked 12 hours a day, Monday through Friday. How many overtime hours were accumulated?

His attorney alleged that it was 32 hours of overtime, computed as follows: Monday through Wednesday, eight hours each day regular, and four hours each day OT; Thursday, four regular hours and eight OT hours; and Friday, zero regular hours and 12 OT hours.

The CPA felt that it should be 40 regular hours and 20 OT hours.

Those who responded to the question agreed with the CPA. Apparently this is a common argument in California, but an attorney who responded said that it has been settled by case law.

The rule is that one first totals the daily overtime hours, which equals 20 in this question. Next, total the weekly OT hours, which also equal 20 here. The employer must pay whichever is greater. In this case, they are the same, and the number of overtime hours is 20.

Lost Articles of Incorporation 

Copies of lost articles of incorporation can be obtained from the California Secretary of State; Corporate Document Filings; 1500 11th St., 3rd floor; Sacramento, CA 95814-5701. Phone: [phone].

Auto Mileage Records

When one's back is against the wall, and some type of mileage record has to be produced for an IRS audit, many TaxTalk participants have found most clients have an appointment calendar that can be produced.

Beginning with that, it is possible to make a spreadsheet of what business driving was done, when and for what purpose. Then, applying the mileage to each of those places, you can get the total business mileage for the year.

The IRS generally has accepted such reconstructions.

Thanks to the following for their participation in the discussions which produced these items: CPAs Jerry Chyo, Gino Coppa, Jim Counts, Gina DeRosa, Joseph Feliciani, Steve Janowicz, Jim Kelly, Steve Kramer, Jennifer LaPlante, Mike Lynch, Johanna Sweany Salt, Chet Swart, and JDs Lew Wiener and Irene Guimera.

By Leonard W. Williams, CPA

Leonard W. Williams, CPA is a Sunnyvale-based sole practitioner. A member of CalCPA's Committee on Taxation, the AICPA Tax Division and a former Peninsula Chapter president, you can reach him at [e-mail].

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