As the summer break from school approaches, many students are looking for part-time summer employment. Both parents and students should be aware of the tax issues that need to be considered when working a summer job. Here is a rundown of some of the more common issues:
Completing Form W-4 – Employers use the W-4 form to determine the amount of tax withheld from an employee's paycheck. Students with multiple summer jobs will want to ensure that their employers withhold adequate taxes to cover their total income tax liability. Generally, a student with income only from summer and part-time employment and who is claimed as a dependent of someone else can earn as much as $13,850 (the standard deduction amount for 2023) without being liable for income tax. However, if the student has investment income, the tax determination becomes more complicated because, as they are dependent on another, special rules apply.
Watch Out for Payroll Surprises – Some employers may attempt to avoid their payroll tax liabilities by paying the student in cash and incorrectly treating them as an independent contractor, thus leaving the student with the responsibility of producing both the employee's and employer's payroll tax liability (see "Self-Employment Tax" below). If a potential employer intends to do that, they will ask the student to complete a Form W-9 rather than a W-4 or ask for their Social Security Number (SSN) without requesting a W-4.
Tips – If the student works as a waiter, a camp counselor, or in another service industry, they may receive tips as part of their summer income. All tip income received is taxable and subject to federal income tax. Employees must report tips of $20 or more received while working with any employer in any given month. This reporting should be made in writing to the employer by the tenth day of the month following the receipt of tips. The employer withholds FICA (Social Security and Medicare taxes) and income taxes on these reported tips, then includes the tips and wages on the employee's W-2.
Employees may keep records of their tips on Form 4070A and submit Form 4070 to the employer. Both forms are in the IRS Publication 1244. This online version allows the employee to enter the information on Forms 4070A and 4070 and print out the completed forms.
Tips split with others are not subject to the reporting requirement by the employee who initially receives them. That employee should report to the employer only the net tips received.
Odd Jobs – Many students do odd jobs over the summer, are paid in cash, and often are incorrectly not treated as an employee by the payer. Just because the payment is in cash does not mean it is tax-free.
Unfortunately, the income is taxable and may be subject to self-employment taxes (see next). These earnings include income from temporary or occasional jobs like dog walking, babysitting, and lawn mowing.
Self-Employment Tax – When a student works for an employer, the employer withholds Social Security tax and Medicare tax from their pay, matches the amount dollar for dollar, and remits the combined amount to the government. When a student is self-employed, they must pay the combined employee and employer amounts on their own (self-employment tax) if the net earnings are $400 or more. This tax pays for the individual's future benefits under the Social Security system and Medicare Part A. Even if they are not liable for income tax, this 15.3% tax may apply to a student's odd jobs.
Working for Parents – A child under 18 working in a business solely owned by their parents is not subject to payroll taxes. This saves the child from paying the 7.65% payroll taxes and relieves the parent from payroll taxes. The payroll tax exception won't apply if the parent's business is set up as a corporation.
ROTC Students – Subsistence allowances paid to ROTC students participating in advanced training are not taxable. However, active duty pay – such as pay received during advanced summer camp – is taxable.
Newspaper Carrier or Distributor – Special rules apply to services performed as a newspaper carrier or distributor. An individual is a direct seller and treated as self-employed for federal tax purposes if they meet the following conditions:
They are in the business of delivering newspapers;
o All of their pay for these services directly relates to sales rather than to the number of hours worked; and
o They perform the delivery services under a written contract that states that they will not be treated as an employee for federal tax purposes.
Newspaper Carriers or Distributors Under Age 18 – Generally, newspaper carriers or distributors under age 18 are not subject to self-employment tax.
Retirement Plan Savings - Additional income tax savings are possible if the child is paid more (or works part-time past the summer) and deposits the extra earnings into a traditional IRA. For 2023, the child can make a tax-deductible contribution of up to $6,500 to their own IRA. The business where the child works also can provide the child with retirement plan benefits, depending on the type of plan it uses and its terms, the child's age, and the number of hours worked. Combining the standard deduction ($13,850) and the maximum deductible IRA contribution ($6,500 ) for 2023, a child could earn $20,350 of wages and pay no income tax.
Of course, some children will not be thinking about retirement at a young age and may object to contributing to an IRA. If that is the case, you, as the parent, or even the grandparents, can make a gift of the IRA contribution, which can grow to big bucks by the time the child reaches retirement age.
If you are a student or the parent of a student with questions about these or other issues associated with student employment, please call this office for assistance.