Personal Finance: It Pays to Hire Your Kids

Maybe it's time your kids started pulling their weight. With tough new kiddie tax rules, it doesn't pay to feed their savings accounts: the interest they earn is taxed at your rate until they're 18, and next year that goes up to 23, as long as they're students. But it does pay to hire them and pay them a salary. That earned income can be effectively shielded from taxes and used to amass savings. Here's how to make the system work:

In your business. Even if you just have a weekend eBay enterprise, you can hire your child and create big tax savings. Any age is fine as long as they do the work the job requires. William Massey of Thomson Tax & Accounting gives an example: A parent in the 35 percent bracket pays his daughter $5,350 a year to receive orders and pack boxes. As long as she files her own return and claims her own standard deduction, she'll owe no taxes. That means a tax savings of $1,400. She can take that money and use it to open a Roth IRA, shielding all earnings from additional taxes. She can then pull out her original deposits for college and leave the rest to grow into a retirement bonanza.

• Around the house. If you don't have a business, it's more complicated but can still be a good long-term savings strategy, says Allen Ford, an accounting professor at the University of Kansas. You can pay your child a salary to mow the lawn. You'd be using money that had already been taxed to you, so there would be no immediate savings. But the income would be tax-free to your child, and he could use it to establish a Roth IRA, which could accumulate tax-free income for decades. "Young people should be putting money into a Roth as fast as they can, the sooner the better," says Ford.

• Be legit. In either case, it's important to do things right, lest the IRS think you're just giving your kids a gift. That means paying them a reasonable amount for the work they do, documenting hours and tasks, and filing a tax return for them. And making sure they don't blow their IRA on candy or an Xbox, or the "savings" will be for naught.

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