Teaching Your Teen about Taxes
Teens are often literal people - especially when it comes to all things related to teen money. When they start working for an employer (whether in a summer job or a winter one) for a certain amount of money, this is what they expect to receive. For example, if they work 10 hours at $8 per hour, they would expect to get $80. In the world of work, this is not the case. Teaching your teen about taxes before they get that first paycheck can make the transition less of a shock. Here are some tips to help you do that.
Start with the basics on withholding taxes. Income tax withholding is generally collected from everyone no matter how much money they earn. (There can be some exceptions, particularly for teens who are exempt, but that distinction can get complicated for a first discussion.) What comes out of employees' checks as taxes is how the government creates revenue for itself. That revenue, in turn, is used to provide services that many of us use every day.
When teens start working for someone else, their employer will give them a tax form to fill out called a Form W-4. Most teens probably won’t understand it, so parents need to help them fill it out and explain what it means. The state and federal government determines how much money to take in income tax withholding through taxes based on what is on the form. This is a great way to start the discussion and to move into further ways of teaching your teen about taxes.
The goal for most of us, teens included, is to make sure you have enough income tax withholding to meet any tax requirements but to also keep as much as possible. When it's a first job, this can be hard to do since you may not be sure how much you are really going to earn in a year. The good news is that it can always be adjusted later in the year if you need to.
You will also need to cover Social Security tax (including Medicare tax) when teaching your teen about taxes. These are withholding taxes that are generally non-negotiable and not governed by the W-4. They are set amounts that come out of each check equal to 7.65% (combined).
Figure out if they need to file a tax return. For teens with a job, the earning potential may not enough to file a tax form on April 15th of the following year. There is an amount that, if a person’s earnings fall below it, they are not subject to income tax filing. Your teen will almost surely fall in that exempted category. You can check the latest guidelines for filing here.
The guidelines change each year, so it is a good idea to check back annually. This is especially true if teens start working more regularly and earning more money. As you are teaching your teen about taxes, this is something worth talking to them about - maybe even as you prepare to file your own return. They also need to understand that when their earnings increase after high school or college, the tax laws change for them. More earnings mean that they will file a tax return and pay more taxes - whether through withholding taxes or when they file their return. But, for now, they have an advantage and should take full benefit of it.
Talk about self-employment. Plenty of teens may be in business for themselves. Babysitting and other
self-employment is subject to taxes if they make over a certain amount of money. Selling items on eBay could push your teen over the allowable limit for non-filers. In that case, discuss the forms needed to be filled out at tax time. Encourage your teen to save their money wisely in case the IRS deems that they owe tax money. And, as with being an employee, check the IRS website to find out what the income limit is for the current filing year.
Self-employed teens may also need to look at what changes with their social security tax. Employees pay only half of this; if teens are self-employed they get to pay their half (7.65%) and the "employer" half (another 7.65%) as well. Like most rules, there are limits so check to make sure this social security tax has to be paid by teens working for themselves before mailing off a check.
Taxes can be a shock for teens when they open their first check. Teaching your teen about taxes when they take on their first neighborhood job will help prepare them for their tax future. It is a key part of teen money skills and teen money management.
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