Tax Considerations When Hiring a Nanny / TutorSubmitted by Mission Financial Planning on July 27th, 2020
With some schools expected to stay closed for a while, many families are considering hiring a nanny or tutor to help care for children while parents work and to help their kids keep learning. Childcare is expensive. Average childcare costs range from $17,193 per year in the South to $24,815 in the Northeast – not too different than a year at a public college, we've seen the cost for in-home care go significantly higher.
If you are paying for in-home child care or considering hiring a nanny, there are some tax considerations you should be aware of.
There are some small tax breaks to offset the expense of hiring a nanny (or any child care expense), the first is the Child and Dependent Care Credit. The credit can offset up to 35% (the percentage decreases as income rises) of your childcare expenses, up to $3000 of childcare expenses per child ($6000 maximum). To qualify you must have earned income, your child needs to be under age 13, and eligible childcare expenses would include those allowing you to work or look for a job.
Another way to pay for childcare in a tax-advantaged way is with a Flexible Savings Account (FSA). Larger employers often provide access to an FSA that can be used to pay for dependent care. You can usually put up to $5000 pre-tax into an FSA account and use it to pay for child care pre-tax, including nannies, day care or summer day-camps that allow you to work.
To get the Child Care Credit or use the Flex Savings Account you must report the nanny’s Tax ID number, so no cash-under-the-table babysitting allowed.
We've talked about tax breaks now let's talk about the tax costs. If you hire an individual to provide childcare or help with tutoring, you’ll need to pay and submit taxes just like a regular employer. Those include:
- Taxes withheld from the employee: Social Security & Medicare taxes (FICA), as well as federal & state income taxes.
- Taxes paid by the you (the employer): Social Security & Medicare taxes, as well as federal & state unemployment insurance.
Yes, you have to pay a nanny W2 wages, they don’t qualify as 1099 employees. Anytime you pay someone $2,200 or more in a calendar year (2020) “nanny taxes” come into play (could also be an individual you pay to clean the house or mow the lawn).*
If this sounds like an expensive headache it is.
Tax obligations will vary depending on where you live. Not all states have income taxes, while others require additional taxes, paid by you or both. To see the specific requirements where you live, visit this nanny tax page for your state.
Other than the little bit of help from the tax credit and Flex Savings Accounts there are no real tax-efficient ways of paying for a nanny. Their income is not tax deductible the way that employees are deductible to businesses. Because your nanny can't write off job-related expenses, you may want to reimburse for mileage, for instance. Reimbursements are not taxable.
*There are a number of nanny payroll companies set up to handle everything related to compensating a household employee. If you search for nanny payroll services quite a few come up. Here are just a few examples, please research pricing, services and the user-interface before signing up.
Please call if you would like to talk through the tax implications of any type of household help.