Nanny Tax 101
Tips for understanding nanny taxes, nanny salary, and tax withholding -- as well as the benefits for paying nanny taxes.
It's hard to know all the ins and outs of hiring a caregiver, but families often overlook one important thing: taxes.
What Are Nanny Taxes?
The "nanny tax" is comprised of a combination of federal and state taxes that typically include:
- Social Security & Medicare taxes (FICA), as well as federal & state income taxes withheld from the employee
- Social Security & Medicare taxes, as well as federal & state unemployment insurance taxes paid by the employer
These taxes come into play when a family pays a nanny - or any household employee - $2,100 or more in a calendar year (or $1,000 or more in a calendar quarter for unemployment insurance taxes).
Note: Not all states operate this way. Some don't have income taxes, while others require additional taxes to be either withheld from your employee, paid by the employer, or both. To see the specific requirements for your state, visit the nanny tax page from your state.
Unless you're a tax expert, you probably have a few questions about how to do things correctly. To help you out, here are the answers to some common nanny tax questions and concerns:
Is Your Nanny an Employee?
In short, yes. According to the IRS, a person is an employee if you're telling them what they will do and how they will do it, as opposed to an independent contractor that you tell only what results you're looking for. Families that misclassify their household employee as an independent contractor (by providing a Form 1099 for filing taxes) can be charged with tax evasion.
Learn more about why your nanny is NOT an independent contractor
What Will Families Need in Order to Pay Nanny Taxes?
Here are four things to collect:
- ID numbers: You need both the federal and state tax identification number in order to report your nanny taxes. You can get your federal employer identification number (FEIN) from the IRS and use this number to obtain your state identification number from the appropriate tax agency in your state.
- Payroll info: You need to accurately calculate your employee's gross pay, calculate the taxes withheld, and track the corresponding employer taxes each pay period. (Use our nanny tax pay calculator to help.)
- You must provide your nanny with a Form W-2 by the end of January each year.
- You need to file any required year-end forms with the state, as well as Form W-3 and Form W-2 Copy A with the Social Security Administration.
- You need to prepare a Schedule H and file it with your federal income tax return.
- Quarterly filings:
- You should file state tax returns, typically on a quarterly basis.
- You should send 1040 estimated payments to the IRS four times per year.
The good news? Once you've joined Care.com HomePay, we handle all of these forms and quarterly returns for you. Check out how our service works.
What Will Caregivers Need to Provide to Their Family?
Here are three things that nannies need to provide:
- A Social Security number or an ITIN;
- A completed Form I-9 with proper identification; and,
- A completed federal W-4 form and corresponding state income tax withholding form (if you live in a state with income taxes).
If you need information on federal and state withholding, check out our article on W-4 forms for nannies and caregivers.
What Are the Benefits of Paying Your Nanny Legally?
Both families and their nannies actually benefit from proper tax reporting. Employers may be eligible for tax breaks to offset the cost of taxes and have less to worry about if they're audited by the IRS or the state. Caregivers also gain this peace of mind; plus, it's easier to qualify for short- and long-term benefits like:
- Social Security income and Medicare coverage upon retirement.
- Unemployment benefits if they lose their job due to no fault of their own.
- A verifiable employment history necessary for obtaining auto and home mortgage loans.
- Reduced health care costs via subsidies provided through the Affordable Care Act.
Read more about the Top 3 Benefits of Reporting Nanny Taxes
What Can Happen if You Pay Your Nanny "Under the Table"?
Here's a simple example of what can happen: your nanny works for you for several years without having taxes withheld or you paying taxes on her wages. When the kids are in school full-time, you decide to part ways, since her services are no longer needed. She files for unemployment benefits and is required to list her past employers, which includes your family. The unemployment office reviews the case and finds that your family didn't file any tax returns or pay into the state unemployment insurance fund. Your ex-nanny is refused benefits and you're now facing an audit from the state.
What's the punishment? Here's the list of possibilities: tax evasion charges; back taxes with penalties and interest; liability for the employee and employer portions of FICA; and, in some cases, loss of professional license.
As of April 2006, the IRS has started to crack down on employers who pay under the table or misclassify their employees as independent contractors. Now more than ever, it's important to be cautious. Learn about the Top 11 Professions Most at Risk if Not Paying Nanny Taxes.
For help on how much you should be paying in nanny taxes and saving on tax breaks, check out our Nanny Tax Calculator.
How Much Work Will This Involve? Can HomePay Help?
The IRS estimates the average family can expect to spend 50-55 hours per year correctly managing the nanny tax process. This includes all the tax requirements listed above, as well as managing your employee's payroll and responding to any notices sent by the IRS and tax agencies in your state.
Our HomePay experts can take care of all the work for you. From handling all the paperwork to actually filing your returns, we take care of everything. If this sounds like the better option for your family, contact our office or feel free to get started online. Call for a free consultation at (888) 273-3356.