You don't have to be a contender for a Cabinet post to owe "nanny taxes" on caregivers, housekeepers or other household workers.
Congress updated tax laws for in-home helpers in 1994 after attorney general candidates Zoe Baird and Kimba Wood and defense secretary-designate Bobby Ray Inman ran afoul of long-standing rules that required quarterly tax payments for any household help paid more than $50 - a threshold low enough to catch everyone who paid a neighborhood youngster to baby-sit or cut the lawn occasionally.
The revised rules require taxpayers to pay employment taxes on household workers paid more than $1,300 a year now. The new rules also allow annual payment with federal income taxes, and exempt tax for payments to spouses, parents, your under-21-year-old child or anyone under age 18 whose principal job isn't household work.
The changes were supposed to prompt compliance, but may have encouraged tax scofflaws instead: Where almost 500,000 taxpayers of the 2 million households estimated to owe nanny taxes paid up under the burdensome old law, only 286,175 paid the taxes in 1999, the latest year for which the Internal Revenue Service has figures for the simplified Schedule H.
More taxpayers may be taking their tax planner's advice to hire independent contractors - plumbers, electricians and nursing-care, housecleaning and yard services that bring their own employees and equipment and pay worker taxes themselves.
Still, an in-home helper often is a taxpayer's employee, and tax experts say there are good reasons to comply that benefit both of you short- and long-term.
The nanny tax is actually three separate federal employment taxes:
- Social Security and Medicare payroll taxes (known as FICA for Federal Insurance Contributions Act on your paycheck stub). Together, they total 15.3 percent of pay, half owed by employer and half by employee. Household employers can withhold the half owed by the household help the way it's withheld from employer paychecks, but most law-abiding householders just pay the full 15.3 percent rather than get bogged down in withholding details.
- Federal unemployment insurance taxes (or FUTA, for Federal Unemployment Tax Act), a 0.5 percent tax on the first $7,000 paid to household help. There also are state unemployment taxes, which typically range between 2 percent and 4 percent of pay, and state disability insurance coverage.
Household employers may not pay because they don't think they'll get caught. But Montclair State University accounting professors Jo Anne Pinto and Joseph Li Pari found lots of advantages to staying on the books, starting with lawyers, bankers or government employees who can be fired if they don't obey the law.
Their accounting work for a lawyer pleasantly surprised their client. He found he could save up to $5,000 a year in tax-free income to pay for child and elder care through his company's flexible spending plan. That was enough so the net gain to him and his nanny was $1,251.25 the first year. For people in the top tax bracket, tax savings can be double that.
Taxpayers with moderate incomes who don't have a flexible spending account can claim the child-care credit. Depending on income and number of children, tax savings can total up to $1,440 a year, but you can't claim the tax break on Form 2441 unless you can furnish the IRS with your employee's name and Social Security number.
Benefits for caregivers identified by Pinto and Li Pari go beyond the obvious retirement, disability and unemployment benefits that household taxes fund:
- Low-income household workers can claim the federal Earned Income Tax Credit that refunds up to $4,000 cash to "working poor" taxpayers who don't make enough to owe income tax. Some states have this credit, too.
- College students who earn money doing household chores can claim in-state tuition and Hope or Lifetime Learning Credits for tuition and other costs - but only if they file income-tax forms.
- Immigrants seeking U.S. citizenship must present tax returns for several years' wages before the Immigration and Naturalization Service will consider their petitions.
Nanny tax services sell computer software for taxpayers who want to do it themselves or offer a range of payroll and tax services.
Do-it-yourselfers should get IRS Publication 926, "Household Employer's Tax Guide," for details. It and Schedule H forms and instructions for 2001 taxes are posted on the www.irs.gov Web site or can be ordered through the IRS toll-free telephone number, 1-800-TAX-FORM (1-800-829-3676).
Employers also need Form SS-4 to apply for a federal taxpayer identification number if they don't have one and should check state tax authorities for state filing and payment information.
Pinto, who does employment tax forms for her 96-year-old grandmother's caregiver, said the one problem with compliance is that states frequently change filing and withholding rules and have been slow to follow the federal government in simplifying the tax. "States are lagging behind," she said. "It's time they caught up."
Where to get help with nanny taxes
There is professional help for taxpayers who want to do the right thing and help their in-home help qualify for Social Security, Medicare, unemployment or disability benefits:
- For do-it-yourselfers, NannyPay lets you calculate federal and state withholding taxes for household help along with paycheck stubs and other documentation for a 30-day free trial, after which it's $59.95 for the tax year. From Essentia Software of Collegeville, Pa., it can be downloaded at www.essentia-soft.com or mail-ordered toll-free at 1-888-999-1722.
- For higher-income families with less time than money, professional household payroll firms offer basic signature-ready tax reports and much fancier services. One even lets you put your payments on plastic so you can rack up frequent-flier miles or other credit-card fillips. Firms include:
- GTM Associates of Clifton Park, N.Y. - www.4easypay.com or 1-888-432-7972 toll-free.
- Home/Works Solutions of Sterling, Va. - www.4nannytaxes.com or 1-800-NaniTax toll-free.
- NannyTax Inc of New York City - www.NannyTax.com or 1-888-NannyTax toll-free.
- Breedlove & Associates of Austin, Texas - www.breedlove-online.com or 1-888-breedlove toll-free.
Compliance with nanny tax falls
When Congress eased the rules on "nanny taxes" in 1994, almost 500,000 out of the 2 million taxpayers with in-home help paid household employment taxes. Since then, filings have fallen substantially, despite higher thresholds for taxable wages, exemptions for youngsters who baby-sit or mow lawns, and simpler filing rules.
Tax Year ..... Nanny Tax ..... Payments
1995 .......... 291,663 ........ $630.7 million
1996 .......... 304,957 ........ $665.1 million
1997 .......... 310,367 ........ $763.9 million
1998 .......... 284,706 ........ $752.3 million
1999 .......... 286,175 ........ $759.4 million
Source: Internal Revenue Service Statistics of Income