There are some instances when a person may choose to assign a portion of their income to another individual. You may be able to do this by asking your employer to send your paycheck directly to a third party.
It should be noted, however, that if you choose to assign your income to a third party, then this does not mean that you will be able to avoid paying taxes on that income. In other words, you will still be responsible for paying taxes on that income regardless of whether you decide to assign your income to a third party or not. This guideline is known as the “assignment of income doctrine.”
The primary purpose of the “assignment of income doctrine” is to ensure that a person does not simply assign their income to a third party to avoid having to pay taxes. If they do, then they can be charged and convicted of committing tax evasion.
One other important thing to bear in mind about income assignments is that they are often confused with the concept of wage garnishments. However, income or wage assignments are different from wage garnishments. In a situation that involves wage garnishment, a person’s paycheck is involuntarily withheld from them to pay off a debt like outstanding child support payments and is typically ordered by a court.
In contrast, an income or wage assignment is when a person voluntarily agrees to assign their income to someone else through a contract or a similar type of agreement.
How is Assigned Income Taxed?
As previously discussed, a taxpayer will still be required to pay taxes on any income that is assigned to a third party. The person who earns the income is the one who will be responsible for paying taxes on the income, not the person to whom it is assigned. The same rule applies to income that a person receives from property or assets.
For example, if a person earns money through a source of what is considered to be a passive stream of income, such as from stock dividends, the person who owns these assets will be the one responsible for paying taxes on the income they receive from it. The reason for this is because income is generally taxed to the person who owns any income-generating property under the law.
If a person chooses to give away their income-generating property and/or assets as a gift to a family member, then they will no longer be taxed on any income that is earned from those property or assets. This rule will be triggered the moment that the owner has given up their complete control and rights over the property in question.
In order to demonstrate how this might work, consider the following example:
- Person A owns an entire apartment building in the city. They decide to start renting out individual units to tenants for a fee of $4,000 per month. The payment that Person A gets from their tenants (i.e., the rent for $4,000 per month), will be considered income in the eyes of the law. Thus, if Person A assigns the monthly income to their relative, they will still be liable for the taxes owed on that income.
- On the other hand, if Person A transfers the title of the apartment building to a relative as a gift and completely surrenders control and their rights in the apartment building, then they will not be required to pay taxes on the monthly income since they are no longer considered to be the owner.
- Instead, the person to whom the apartment building was transferred will now be liable for paying taxes on any income they receive from tenants paying rent to live in the building since they are the new owner.
Are There Any Exceptions?
There is one exception to the rule provided by the assignment of income doctrine and that is when income is assigned in a scenario that involves a principal-agent relationship. For example, if an agent receives income from a third-party that is intended to be paid to the principal, then this income is usually not taxable to the agent. Instead, it will be taxable to the principal in this relationship.
Briefly, an agent is a person who acts on behalf of another (i.e., the principal) in certain situations or in regard to specific transactions. On the other hand, a principal is someone who authorizes another person (i.e., the agent) to act on their behalf and represent their interests under particular circumstances.
For example, imagine a sales representative that is employed by a large corporation. When the sales representative sells the corporation’s product or service to a customer, they will receive money from the customer in exchange for that service or product. Although the sales representative is the one being paid in the transaction, the money actually belongs to the corporation. Thus, it is the corporation who would be liable for paying taxes on the income.
In other words, despite the fact that this income may appear to have been earned by the corporation’s agent (i.e., the sales representation in this scenario), the corporation (i.e., the principal) will still be taxed on the income since the sales representative is acting on behalf of the corporation to generate income for them.
One other exception that may apply here is known as a “kiddie tax.” A kiddie tax is unearned or investment-related income that belongs to a child, but must be paid by the earning child’s parent and at the tax rate assigned to adults (as opposed to children). This is also to help prevent parents from abusing the tax system by using their child’s lower tax rate to shift over assets or earned income and take advantage of their child’s lower tax bracket rate.
So, even though a parent has assigned money or assets to a child that could be considered their earned income, the money will still have to be paid by the parent and taxed at a rate that is reserved for adults. The child will not need to pay any taxes on this earned income until it reaches a certain amount.
Should I Consult with an Attorney?
In general, the tax rules that exist under the assignment of income doctrine can be confusing. There are several exceptions to these rules and many of them require knowing how to properly apply them to the specific facts of each individual case.
Therefore, if you have any questions about taxable income streams or are involved in a dispute over taxable income with the IRS, then it may be in your best interest to contact an accountant or a local tax attorney to provide further guidance on the matter. An experienced tax attorney can help you to avoid incurring extra tax penalties and can assist you in resolving your income tax issue in an efficient manner.
Your attorney will also be able to explain the situation and can recommend various options to settle the assignment of income issue or any related concerns. In addition, your attorney will be able to communicate with the IRS on your behalf and can provide legal representation if you need to appear in court.
Lastly, if you think you are not liable for paying taxes on income that has been assigned to you by someone else, then your lawyer can review the facts of your claim and can find out whether you may be able to avoid having to pay taxes on that income.
