Maximizing Benefits: Adding Your Spouse to Payroll & 401k Contributions

While we strive to provide accurate and up-to-date financial and tax information , nothing you hear on this podcast should be considered as financial advice specifically for you or your business . We're here to share general knowledge and experiences , not to replace the tailored advice you get from a professional financial advisor or tax consultant .

We strongly recommend you seeking individualized advice before making any significant financial decision .

And if you're wondering , I did not buy my wife a paycheck for our 20th anniversary . She is smart enough not to want to work with me .

But no , anytime you have a business , it's a family affair , right , I mean , you're the business owner , you're in it 50 , 60 hours a week , but it affects your family too , and it's important to kind of recognize their contribution . And so people are like well , hey , my wife or my husband , they're helping me with the business , they're working in the business .

Should I put them on payroll and give them a paycheck ? And the answer is it really depends , and I know that's not a very satisfying answer , but this is kind of a hairy topic and there's a lot of variables here .

So I thought today we could talk about two really bad reasons to put your spouse on payroll and two really good reasons , and what you do ultimately will be , you know , a decision you got to make with your tax professional or your accountant . But this is going to give you some of the main points to consider , whether you want to do this or not .

He did this like a pro and I think like pretty much all his immediate family members are billionaires because you get them involved early and you really set them up for success . So it's something your family members might . You might not make them billionaires , but you can at least get them taken care of if you pay attention to these details .

At the very least your spouse should be on your board of advisors or board of directors . If you're a corporation , you definitely need their input and they know you better than anyone else , so make sure that you are taking advantage of that . And then the other side of that is your spouse should have access to some of the profit from your business .

And sometimes people are like if my wife or my husband's not on payroll , how do I give them money ? Can I just give them a draw ? Husband's not on payroll , how do I give them money ? Can I just give them a draw ? Well , let's kind of think about this logically , right ? If you have a spouse , then you probably are legally married .

And if you're legally married , then you have the ability to file a joint tax return . And you do have to be legally married or at least meet that definition . So there does have to be some kind of marriage contract here , but you're filing a joint tax return and if you're filing jointly , then the income that you make is taxed to the both of you .

It's not separated out . Whatever you make , whatever they make , it all gets pulled together on one tax return . So if that's the case , then any draws or distributions that you give to your spouse , they're treated just like draws or distributions to you . The IRS doesn't care , it's all going on one tax return .

So moral of the story is if they need some money , it's perfectly fine to give them a distribution from the business , just like you would give yourself a distribution from the business , just like you would give yourself a distribution from the business . Of course , not co -mingling . We don't run the company credit card for groceries .

But whatever channels you would use to give money to yourself , you can do that to give money to your spouse . So let's talk about payroll then . So let's start with the negative . So I got to stop saying so Bad reasons to put your spouse on payroll . The number one thing I hear is well , they need to be on payroll so they can earn Social Security benefits .

There is a measure of truth to this . When you are on payroll , you pay FICA . Fica is a tax for Social Security and Medicare and it's expensive , and that's how you earn Social Security benefits . But if you are a spouse of someone who is paying FICA , you automatically get Social Security credits based on your working spouse's FICA .

Social security credits based on your working spouse's FICA . It's usually up to about 50% . So let's use a real-life example . There's an individual who works a full-time job , pays a lot of payroll taxes and he's married to a woman who is a stay-at-home mom and does not work outside the home .

You don't pay FICA when you take care of your kids and he unfortunately passes away . Well , she's entitled to collect Social Security benefits based on the FICA that he paid . So that's the key here . It's not an all-or-nothing type deal . Even if you're not paying into the system and your spouse is , then you can collect off their benefits .

So if you're going to put your spouse on payroll just to bump up the Social Security benefits , you're going to have to pay them a lot of money for a lot of years in order for them to earn more Social Security benefits than they would being attached to you , and it's a really bad rate of return on investment . Social Security is a bad investment anyway .

Right , it's not an investment , it's a social safety net . We don't pay into social security because we think we're going to 10x our money . We pay into it because we have to and because it provides a certain base level of protection for American citizens .

So , rather than putting your wife or your husband on payroll just to get those social security benefits , I would say take that money you're going to pay in FICA , put it into an IRA . Let it grow at a much higher rate of return than the government's going to get . You . Keep control over it .

You can withdraw it when you want , you can invest it how you want and if there is an emergency , your spouse can still benefit from the FICA when you want . You can invest it how you want and if there is an emergency , your spouse can still benefit from the FICA that you pay . So don't put your spouse on payroll just for Social Security benefits .

Speaking of IRAs , that's another reason sometimes people want to put their spouse on payroll . They say , well , I really want to fund an IRA and I know that I'm allowed to contribute up to $7,000 a year and my spouse is allowed to contribute $7,000 a year , but they have to have earned income to do so and that is 100% correct .

However , you are married , filing jointly , so you're viewed as one unit , which means if one spouse has earned income , both spouses have earned income as far as the IRS is concerned . So as long as one spouse is making at least $14,000 in earned income , then both spouses can contribute $7,000 each to either a traditional or a Roth IRA .

So there's no need to put them on payroll just to get that benefit . They've already got that benefit based on the earned income that you're making . So those are my bad reasons for a spouse on payroll . Good reasons for a spouse on payroll . All right , let's think about a S-corp where you and your spouse are 50-50 shareholders .

Sometimes you're set up where you're 100% and your spouse is zero . Sometimes they want to be 50-50 .

Well , if your spouse is a shareholder and they perform significant services in the company , now the IRS rules kick in about distributions and reasonable compensation , and what that is is your spouse cannot take tax-free distributions from the S-corp unless they're also being paid a reasonable salary based on the work that they do in the company .

The ways around this is either not having your spouse not be a shareholder , or two having your spouse not perform significant services in the company . But if they are a shareholder and they are working in the company and they want to be able to take tax-free distributions , then they have to be getting paid a salary .

So now we think , okay , well , I got an idea right , I know a workaround . What if they don't take any distributions from the company ? I'll take all the distributions because I'm getting reasonable comp anyway . They can stay off payroll , they can work in the company and they just will never take distributions .

I love the way that sounds , but unfortunately we run into issues with common versus preferred stock . So one of the caveats of having an S-corp is everybody has to be treated equally . So if you have 50-50 shareholders , then whenever money comes out of the company as a distribution , 50% has to go to one shareholder , 50% has to go to the other shareholder .

There's no way around that . If you're 80-20 , then the percentages are different , but the principle is the same . If you don't give these equal or pro rata distributions , then you have what's known as preferred stock , because one stockholder is getting more than his fair share . That's preferred stock . That is prohibited in an S-corp .

If the IRS finds out you're doing that , they're going to yank your S-corp status . You're going to default to C-corp , you're going to have double taxation . It's going to be a really bad year . So unfortunately , we can't get around that by saying well , my wife or my husband , they just don't take any money .

If money is being distributed at all , they are taking their pro rata share . Whether you view it that way or not , that's how the IRS is going to view it . So , just to recap , if they're a shareholder and they perform significant services , they need to be on payroll . This is not a tax saving strategy .

This is avoiding problems with the IRS strategy and being compliant . So that could be one reason to put them on payroll . Second reason and this one I get more excited about because this is a tax saving strategy you might want to maximize your spouse's 401k contributions . So if they work for the company contributions , ooh .

So if they work for the company , now they can contribute to the company's 401k and they can receive a 401k match . Earlier we talked about IRAs . Those are individual accounts that you hold personally . You don't need to be employed or have a business to have an IRA , but they're limited at $7,000 .

If you want to take this up a few levels and start getting serious money put away tax-free , then you can use your business to open a 401k . And if you and your spouse are the only employees in your business like maybe you have contractors but you guys are the only ones on payroll then you have a situation that we kind of nickname a solo 401k .

That's not a legal term , that's just a tax planning term for a 401k where only you and your spouse are employees . The reason that is a big benefit is that with a 401k , whatever you do for yourself , you have to do for all your employees .

So you might not be in a position to do , like you know , two for one matching with all of your employees , but if it's just you and your spouse , you can do whatever you want . There's , you know there's not going to be an issue there . There's , you know there's not going to be an issue there . So that's where the solo 401k comes in .

million dollars , and then you have the wife is doing the other part of the production management and office management and they're running like a million dollar business and they maybe have subcontractor crews doing the work , doing the painting , and so they're the only workers in the business .

Maybe it's an S-corp at this point , since it's doing a million revenue , probably being hopefully being taxed as an S-corp by this point , but you know , and so they're the only employees . Or maybe there's just one owner and it's only one employee . But that would be a great solution .

Like a solo 401k , it could be a taxed as an S-corp or maybe even as a sole proprietorship . I think a solo 401k , if I'm not mistaken , is probably better suited for a sole proprietorship , but it could still work on an S-corp .

It's just a little bit more , not as advantageous , but I could see a lot of painting businesses that have that husband-wife team that are doing like $500,000 to a million in revenue and they have subcontractor crews .

But like Daniel , what you described you know a husband and wife team who is running a painting business using a contractor model . They are an ideal candidate for a solo 401k . And if you don't qualify for a solo , that's okay too . We can definitely talk about a safe harbor or a group 401k .

You might not be able to be quite as aggressive with it , but you're still going to be able to get some tax savings . You just have to consider how the other employees in your company are going to be treated .

So let's just kind of throw some numbers on it , because to me this is all awesome , but when I put the numbers on it , it really kind of solidifies it in my mind . So you're working , you're on payroll and you're thinking , hey , I really want . You already got your 401k , you're already putting in as much as you possibly can .

What would happen if I brought my spouse in now too . All right . So the contribution limit these are the employee deferred contributions or the amount that's going to come out of the employee's paycheck is $23,000 for people who are 50 and younger in 2024 . So you're going to need to pay your spouse at least $23,000 .

But there's also a cost , because although those contributions are not subject to income tax that's like the whole point we're not going to pay taxes on this . They are subject to that F word FICA . So we have to pay them a little bit more than $23,000 so that we can factor in the FICA .

In this case it's going to be approximately $25,000 , a little bit under $25,000 . So we pay them $25,000 . That covers their FICA and $23,000 worth of 401k contributions . Now the company is able to match those contributions up to a maximum of 25% of their payroll . So 25% of $25,000 is $6,250 . That's what the company is allowed to match .

So we add this together , we get a tax deduction to the company of $31,250 , wages , fica and match $31,250 . Match $31,250 . Your spouse puts $29,250 in their 401k their contributions and the company match and you don't pay taxes on any of that money .

It's all business deductions and the portion that came to you on payroll is pre-tax because it's a traditional 401k . So you might decide that the approximately just under $2,000 of FICA that you're going to pay is worth it to get a $31,000 tax deduction and about $29,000 into the 401k tax deduction and about $29,000 into the 401k .

If your spouse is 50 or older , the limits increase . They have the catch-up contributions so you can put an extra $7,500 in there . So you're going to bump up the pay by $9,000 to cover that FICA . You're going to put that extra $7,500 in that FICA . You're going to put that extra $7,500 in . Now you might be thinking well , that's awesome .

The only limiting factor here is that the match can only be a maximum of 25% of the salary . So what if I bump up the salary ? Then I can bump up the match , that's true . But now we start to get into diminishing returns where the FICA penalty that you have to pay is going to outweigh the benefits of the increased 401k contributions .

So I mean , you can do what you want and you can definitely talk about it with your accountant . I personally think that $25,000 , that's kind of the sweet spot where you're getting all the benefit and very , very little of the FICA penalty and that's where you're really maximizing your tax benefits there .

But yeah , an extra $30,000 into your spouse's 401k and an extra thirty thousand dollar savings , especially if you're in a higher tax bracket . I said 30 , the extra thirty thousand dollar tax deduction in a higher tax bracket that that's thousands of dollars of savings .

So it may be very well be worth paying two grand in fika for all of that benefit yeah , so those are two .

Every marriage is different , so there might be some , you know , benefits to putting your spouse on payroll that we just can't quantify on a spreadsheet . You know there's really not a right or a wrong answer , but these are things that you can kind of think about and I did kind of jot down some notes here too .

There could potentially be another benefit if you have a lot of high medical expenses and you're looking for a way to write those off . You know , as you know , itemizing medical expenses is a terrible way of writing off your medical costs for a few reasons . One you can't write off your limited sorry , let me rephrase that your limited right 7.5% of AGI .

You got to pay that out of pocket . Then you got to itemize and most of us don't . It's terrible . So some people have been able to form like medical C-Corps , which is basically a C-Corp that owns the business just for the purpose of reimbursing medical costs .

Or they might have a sole proprietorship outside of their normal S-corp operating company and they have some kind of an HRA set up . This is really swimming in the deep end , right where the sharks with the lasers on their heads live . It can be a really great plan for some people , but probably too in the weeds for an enjoyable podcast .

But if you have really really heavy medical expenses , there could be reasons to put your wife on payroll and go down this route .

Love to hear from you and with that , we'll see you next week .