Nanny tax procedures every family should know about
Unsure of your responsibilities to your caregiver? Here's what the IRS wants you to do
If you’re hiring a nanny, you may have heard the term “nanny taxes.” But what exactly are they and are they applicable to you? In this article, we'll cover:
- The benefits of paying nanny taxes
- How much you can expect to pay in taxes
- Tax breaks you can use to save money
You should know: If you pay a nanny (or any other caregiver) $2,300 or more during the course of the calendar year, you must withhold taxes from their paychecks and pay your share of taxes as a household employer. Not only is it illegal if you don't, but it may also do your nanny a huge disservice. Your nanny is breaking the law too when they’re not reporting the wages they’re earning from you. And not having proof of income can prevent them from qualifying for things like car loans and apartment rentals.
"I've had clients tell me they pay taxes simply because, in their profession, customers expect them to do things the right way,” says Tom Breedlove, Sr. Director of Care.com HomePay. “They're not considered trustworthy if they do the opposite in their personal lives."
Yes, taxes add an extra cost to your care budget, but they’re also important for your financial well-being. Here are a couple of the benefits of paying your nanny legally.
Financial security for your nanny — now and in the future. Having taxes withheld will ensure that your nanny can prove their work history, collect unemployment if you have to let them go and build credit with the Social Security Administration so they’ll qualify for Medicare and Social Security payments upon retirement.
Peace of mind for you. You may think that if you're not running for office, you'll never get caught not paying taxes. But it happens more often than you'd think. All it takes is for your former nanny to file for state unemployment benefits, which triggers the IRS to realize you've never paid household employment taxes. Or if the working relationship between you and your nanny sours and they file a wage dispute, your lack of tax payments could easily be brought to light.
A good estimate is 10 percent of your nanny's gross wages, but this can vary by state. Social Security taxes are 6.2% and Medicare taxes are another 1.45%. The rest is made up of unemployment insurance taxes and any additional taxes your state may assess. Check the details in your state for more information.
If you'd like to run a specific budgeting scenario, check out our nanny tax calculator for a quick answer.
Yes, there are two tax breaks most people can take to offset the tax liability you incur by hiring a nanny:
Dependent Care Account. Ask your employer if they offer a Dependent Care Account (a type of FSA) as part of your benefits package. This lets you set aside up to $10,500 of your annual income before taxes and then use that money to pay for child care expenses, such as your nanny’s wages. Reducing your overall taxable income by $10,500 will reduce your tax burden. Your tax savings will depend on the tax bracket you're in and vary between $3,600 and $4,800 in 2021.
Child Care Tax Credit. Most likely, you'll be able to claim 20 percent of the first $8,000 you spend on child care if you have 1 child, or $16,000 if you have 2 or more children. This results in up to either $1,600 or $3,200 in savings in 2021.
If you have 2 or more children, you can use both tax breaks! Your first $10,500 in child care expenses will go toward the FSA and an additional $5,500 can be put toward the child care tax credit. This saves you an additional $1,100.
How do I set up payroll for my nanny and start making tax payments?
The most efficient way to handle these tasks is to sign up with a comprehensive nanny payroll service like HomePay. We'll direct deposit your nanny's paychecks to their bank account, withhold all appropriate taxes and file them electronically. If you’re more of a DIY person, read our tips on how to pay nanny taxes yourself.
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*The information contained in this article is general in nature, may not be applicable to your specific circumstances, and is not intended to be a substitute for or relied upon as personalized tax or legal advice.