How to Pay Your Kid $23,255 from Your Business (And Avoid the Three Traps That Wreck It)

I hear from people every week who think their tax problem is the end of the world. It usually isn't. I'm Darrin Mish. I've resolved over $100 million in tax debt for clients. Here's what you should know.

The $7,880 Family Tax Win Most Business Owners Miss

There’s a tax move that lets you pay your kid, your grandkid, your mom, or anyone else $23,255 for a one-time job out of your business, deduct every dollar, dodge self-employment tax on it, and end up with the family saving about $7,880 in taxes overall. The recipient pockets the cash. You get the deduction.

It works. The IRS allows it. The math is real.

But three things will quietly kill the benefit if you or your accountant don’t know exactly what to do:

1. The wrong 1099 form
2. The kiddie tax (especially for college-age kids)
3. The IRA contribution your tax software will refuse to allow

Each one of these can be solved in about thirty seconds if you know the answer. Each one can also blow up the entire strategy if you don’t. Here’s the playbook.

Quick Recap: How the Strategy Works

The setup is simple. You hire your college student (or your mom, or any other person) for a defined one-time project. The work is real. The pay is reasonable for the work performed. It’s a sporadic activity, not an ongoing trade or business.

Because the work is sporadic and not part of an ongoing trade or business for the recipient, the payment is not subject to self-employment tax. Your business still deducts the full amount as an ordinary business expense. The recipient reports the income on their personal return at their (much lower) tax rate.

For a 20-year-old college student with no other income, $23,255 in payment generates only about $713 in personal income tax. Your business saves $8,593 in tax from the deduction. Net family savings: roughly $7,880. The cash goes to your kid. The IRS gets less.

That’s the setup. Now here’s where most people botch the execution.

Trap 1: The 1099 Form Most Business Owners Send Is Wrong

When you pay an independent contractor for services, your instinct is to send a Form 1099-NEC. That’s the standard nonemployee compensation form. It’s the right answer for most payments. It is the wrong answer here.

For one-time payments to individuals that are not subject to self-employment tax, you don’t use 1099-NEC. You use 1099-MISC, and the amount goes in Box 3 (Other Income). Not Box 1, not Box 7, not on the NEC at all.

This is the IRS instruction. Straight from the official Instructions for Forms 1099-MISC and 1099-NEC. Box 3 of the MISC.

Why does this matter? Because the IRS uses the form type to determine how the income should be taxed. If you put $23,255 on a 1099-NEC, the IRS computer expects to see self-employment tax on Schedule SE. When it doesn’t, the recipient gets a love letter from the IRS asking for the missing SE tax. That’s a fight you don’t want to have.

Put it on the 1099-MISC, Box 3. Then the IRS sees it for what it is: sporadic activity income, not subject to SE tax.

Trap 2: The Kiddie Tax Does Not Apply (But Your Software Thinks It Does)

The kiddie tax slams a child’s unearned income at the parents’ marginal tax rate. If it applied to a $23,255 payment to your college student, it would wipe out most of the tax savings. So the question matters: does the kiddie tax apply here?

No. And the reason is in the statute.

The kiddie tax applies to unearned income. Investment income, dividends, interest, capital gains. It does not apply to earned income. The kiddie tax rules use Section 911(d)(2) to define earned income as “wages, salaries, or professional fees, and other amounts received as compensation for personal services actually rendered.”

The four words that matter are “personal services actually rendered.” Your college student rendered real services. They earned the money. It’s earned income. The kiddie tax doesn’t touch it.

Here’s the practical problem: most tax preparation software does not know this. The software sees Box 3 income from a 1099-MISC and defaults to treating it as unearned income, which kicks the kiddie tax on. After 32 years of practice, I can tell you this is one of the most common preparer errors I see in this scenario.

The fix has two parts:

1. Put the income on Form 1040, Schedule 1, Line 8z. Per the IRS instructions, that’s where income from a sporadic activity not subject to SE tax goes.
2. Override the software if it still tries to apply the kiddie tax. Many programs need a manual override at this step.

If your preparer can’t or won’t override the software, find a preparer who can. The override is correct under the law. The default software treatment is wrong.

Trap 3: Your College Student Can Fund an IRA (And the Software Will Block You)

Here’s the bonus play that almost nobody runs: that $23,255 is earned income for IRA contribution purposes too. Your college student can fund a traditional or Roth IRA for the year.

For 2026, the IRA contribution limit for taxpayers under 50 is $7,500.

The technical path is different from the kiddie tax analysis but lands in the same place. Section 219(f) defines compensation for IRA purposes by reference to Section 401(c)(2), which isn’t quite expansive enough on its own. But the IRS regulations and audit manual interpret compensation to mean “wages, salaries, professional fees, and other amounts derived from or received for personal services actually rendered.”

Your student rendered personal services. The payment qualifies as compensation. The IRA contribution is allowed.

Again, the software will probably fight you on this. Many tax prep programs see Box 3 income and refuse to count it as compensation for IRA purposes. Override required.

Why this matters: if you put $7,500 into a Roth IRA for a 20-year-old this year, and that account compounds at 7 percent for 45 years, your kid retires with roughly $158,000 from that single contribution. Tax-free. From one summer project they did for your business.

This is generational wealth-building hidden inside a routine tax move.

The Full Playbook

If you want to run this for a college-age kid or another family member, here’s the sequence:

1. Hire them for a real, defined one-time project. Sporadic. Not ongoing.
2. Pay reasonable compensation for the work performed.
3. Take the full deduction on your business return.
4. Issue Form 1099-MISC, Box 3 (not 1099-NEC).
5. The recipient reports the income on Schedule 1, Line 8z of their Form 1040.
6. Make sure their preparer does not apply the kiddie tax. Override the software if necessary.
7. Fund a Roth IRA up to $7,500 (under age 50) with the earnings.
8. Keep records: the project description, the work performed, the time spent, the reasonable basis for the payment amount.

Document the project before the payment. Don’t write yourself a memo three years later. Real projects, real work, real records.

The Mistake That Will Cost You Everything

The biggest risk in this strategy isn’t the tax law. The tax law is clear and well-supported. The biggest risk is that the project isn’t real, or the compensation isn’t reasonable, or the records don’t exist.

If your kid “worked” for the business but you can’t describe what they did, you lose. If you paid them $23,255 to address envelopes for two hours, you lose. The IRS doesn’t care that they’re your kid. They care whether the payment looks like a market transaction or a disguised gift.

Make the project real. Make the pay match the work. Make the records solid. Then the strategy holds up.

The Bottom Line

The one-time payment to family is one of the highest-leverage moves in the family tax planning toolkit. Done right, it shifts five figures of income from your bracket to your kid’s bracket, dodges SE tax, funds a Roth IRA, and saves the family thousands.

Done wrong, it triggers a self-employment tax notice, a kiddie tax bill, and a denied IRA contribution. Same payment, same family, completely different outcome.

The difference is execution. Use the 1099-MISC. Use Line 8z. Override the software. Fund the IRA. Keep the records.

Get the Family Tax Strategy Right

If you want to set up one-time payments to family members the right way, or you’ve already done it and want to make sure the reporting is clean, let’s talk. The Law Offices of Darrin T. Mish, P.A. handles tax planning and IRS controversy for business owners. Call (813) 229-7100 for a consultation.