Paying Taxes on Household Helpers

If you employ someone to work for you around your house, it is important to consider the tax implications of this arrangement. While many people disregard the need to pay taxes on household employees, they do so at the risk of paying stiff tax penalties down the road.

As you will see, the rules for hiring household help are quite complex, even for a relatively minor employee, and a mistake can bring on a tax headache that most of us would prefer to avoid.

Commonly referred to as the “nanny tax”, these rules apply to you only if (1) you pay someone for household work and (2) that worker is your employee.

  1. Household work is work that is performed in or around your home by baby-sitters, nannies, health aides, private nurses, maids, caretakers, yard workers, and similar domestic workers.A household worker is your employee if you control not only what work is done, but how it is done.

Who Is a Household Employee?

If a worker is your employee, it does not matter whether the work is full-time or part-time or that you hired the worker through an agency or from a list provided by an agency or association. It also does not matter whether you pay the worker on an hourly, daily or weekly basis or by the job.

If the worker controls how the work is done, the worker is not your employee but is self-employed. A self-employed worker usually provides his or her own tools and offers services to the general public in an independent business.

Also, if an agency provides the worker and controls what work is done and how it is done, the worker is not your employee.

Example: You pay Betty to babysit your child and do light housework four days a week in your home. Betty follows your specific instructions about household and child care duties. You provide the household equipment and supplies that Betty needs to do her work. Betty is your household employee.

Example: You pay John to care for your lawn. John also offers lawn care services to other homeowners in your neighborhood. He provides his own tools and supplies, and he hires and pays any helpers he needs. Neither John nor his helpers are your household employees.

Can Your Employee Legally Work in the United States?

When you hire a household employee to work for you on a regular basis, he or she must complete USCIS Form I-9 Employment Eligibility Verification. It is your responsibility to verify that the employee is either a U.S. citizen or an alien who can legally work and then complete the employer part of the form. It is unlawful for you to knowingly hire or continue to employ a person who cannot legally work in the United States.

Keep the completed form for your records. Do not return the form to the U.S. Citizenship and Immigration Services (USCIS).

Tip: Two copies of Form I-9 are contained in the UCIS Employer Handbook. Visit the USCIS website or call 800-767-1833 FREE to order the handbook, additional copies of the form, or to get more information, or give us a call.

Do You Need to Pay Employment Taxes?

If you have a household employee, you may need to withhold and pay Social Security and Medicare taxes, or you may need to pay federal unemployment tax or both. Refer to this table for details:

If you…

Then you need to…

Will pay cash wages of $1,900 or more in 2015 to any one household employee.Do not count wages you pay to:

  • your spouse,
  • your child under age 21,
  • your parent, or
  • any employee under age 18 during 2015.
Withhold and pay Social Security and Medicare taxes.

  • The combined taxes are generally 15.3% of cash wages.
  • Your employee’s share is 7.65%.

(You can choose to pay the employee’s share yourself and not withhold it.)

  • Your share is 7.65%.
Have paid or will pay total cash wages of $1,000 or more in any calendar quarter of 2014 or 2015 to household employees.Do not count wages you pay to:

  • your spouse,
  • your child under age 21, or
  • your parent.
Pay federal unemployment tax.

  • The tax is 6.0% of cash wages.
  • Wages over $7,000 a year per employee are not taxed.
  • You also may owe state unemployment tax.

If neither of these two contingencies applies, you do not need to pay any federal unemployment taxes. But you may still need to pay state unemployment taxes (see below).

You do not need to withhold federal income tax from your household employee’s wages. But if your employee asks you to withhold it, you can choose to do so.

Tip: If your household employee cares for your dependent that is under the age of 13 or your spouse or dependent that is not capable of self-care, so that you can work, you may be able to take an income tax credit of up to 35 percent (or $1,050) of your expenses for each qualifying dependent. If you can take the credit, then you can include your share of the federal and state employment taxes you pay, as well as the employee’s wages, in your qualifying expenses.

State Unemployment Taxes

Please contact us if you’re not sure whether you need to pay state unemployment tax for your household employee. We’ll also help you figure out whether you need to pay or collect other state employment taxes or carry workers’ compensation insurance.

Note: If you do not need to pay Social Security, Medicare, or federal unemployment tax and do not choose to withhold federal income tax, the rest of this article does not apply to you.

Social Security and Medicare Taxes

Social Security taxes pays for old-age, survivor, and disability benefits for workers and their families. The Medicare tax pays for hospital insurance.

Both you and your household employee may owe Social Security and Medicare taxes. Your share is 7.65 percent (6.2 percent for Social Security tax and 1.45 percent for Medicare tax) of the employee’s Social Security and Medicare wages. Your employee’s share is 6.2 percent for Social Security tax and 1.45 percent for Medicare tax.

You are responsible for payment of your employee’s share of the taxes as well as your own. You can either withhold your employee’s share from the employee’s wages or pay it from your own funds. Note the limits in the table above.

Wages Not Counted

Do not count wages you pay to any of the following individuals as Social Security and Medicare wages:

    1. Your spouse.
    2. Your child who is under age 21.
    3. Your parent.

Note: However, you should count wages to your parent if they are caring for your child and both of the following apply: (a) your child lives with you and is either under age 18 or has a physical or mental condition that requires the personal care of an adult for at least four continuous weeks in a calendar quarter, and (b) you are divorced and have not remarried, or you are a widow or widower, or you are married to and living with a person whose physical or mental condition prevents him or her from caring for your child for at least four continuous weeks in a calendar quarter.

    1. An employee who is under age 18 at any time during the year.

Note: However, you should count these wages to an employee under 18 if providing household services is the employee’s principal occupation. If the employee is a student, providing household services is not considered to be his or her principal occupation.

Also, if your employee’s Social Security and Medicare wages reach $118,500 in 2015 ($117,000 in 2014), then do not count any wages you pay that employee during the rest of the year as Social Security wages to figure Social Security tax. You should, however, continue to count the employee’s cash wages as Medicare wages to figure Medicare tax. You figure federal income tax withholding on both cash and non-cash wages (based on their value), but do not count as wages any of the following items:

  • Meals provided at your home for your convenience.
  • Lodging provided at your home for your convenience and as a condition of employment.
  • Up to $130 a month in 2015 for transit passes that you give your employee or, in some cases, for cash reimbursement you make for the amount your employee pays to commute to your home by public transit. A transit pass includes any pass, token, fare card, voucher, or similar item entitling a person to ride on mass transit, such as a bus or train.
  • Up to $250 a month in 2015 to reimburse your employee for the cost of parking at or near your home or at or near a location from which your employee commutes to your home.

As you can see, tax considerations for household employees are complex; therefore, professional tax guidance is highly recommended. This is definitely an area where it’s better to be safe than sorry. If you have any questions at all, please call.

What Entities Will the IRS Target for 2014 and 2015 Audits?

The GAO says that since FY 2010, the IRS has lost 10,000 employees and had its budget cut by $900 million. More cuts are proposed for the 2015 IRS budget. Identity theft issues, foreign asset reporting, and Affordable Care Act (ACA) responsibilities will continue to absorb personnel and resources. This budget reality will hamper IRS audit goals, but there are still many audit targets that you will want to discuss with your business clients in the next few months.

The rich and their entities. High-income taxpayers will continue to receive audit attention (at about a 9% rate for those reporting income of $1 million to $5 million). Since these taxpayers often have complex tax returns with income and losses from many flow-through entities, the audit of the owner will often lead to an expansion of the IRS examination into the various entities.

Partnership returns. Partnerships are the fastest-growing segment of all tax returns filed. The IRS hopes to expand its audits of partnership and LLC returns. Flow-through losses from developers and real estate investors will get special attention. The audit rate of partnerships and LLCs was a dismal .42% for FY 2013. The IRS did special training this year to increase the number of auditors with a specialized knowledge in partnership law.

Employment taxes. Employment taxes are a focus this year, and this includes a continuing look by the IRS at:

  1. Employee versus independent contractor,
  2. Form 1099 compliance, and
  3. S corporation reasonable compensation issues.

Remember that when the ACA’s employer mandate takes effect in 2015 and 2016, the employee versus independent contractor determination will become more important. Employer ACA penalties can be up to $3,000 for each misclassified employee.

Cash businesses. The tax gap remains a hot item, so cash-intensive businesses will receive a little more attention from the IRS. The IRS is using Form 1099-K to help it select some of these businesses for audit.

One more item of news on business audits. Ninety-four percent of small businesses use QuickBooks software for their accounting records, but the IRS does not have the budget to update its QuickBooks software yearly. Thus, it is unable to accept electronic records from many of the small businesses it is auditing. Without access to electronic records, the audit will be less efficient. Is that good or bad news for the taxpayer and/or the tax practitioner? We will talk about this at our fall Federal & California Tax Update classes.

IRS Offers Simpler Option for Calculating Home Office Tax Deduction

The Internal Revenue Service plans to introduce a simplified way for small business owners and home-based employees to claim the home office tax deduction.

 

Small business owners and employees who work from home and who maintain a qualifying home office will be able to deduct up to $1,500 per year.  The new option allows qualified taxpayers to deduct annually $5 per square foot of home office space on up to 300 square feet, for as much as $1,500 in deductions.  To take advantage of the new option, taxpayers will complete a much simpler version of the current 43-line form.

The new simplified option will be available starting with the 2013 return that most taxpayers file early in 2014.

The IRS anticipates taxpayers will be able to save more than 1.6 million hours per year in tax preparation time from this simpler calculation method. The effort was described by Deputy Treasury Secretary Neal S. Wolin and SBA Administrator Karen Mills as part of the ongoing efforts by the Obama administration to reduce paperwork burdens.

“The announcement builds on the President’s commitment to streamline and simplify the tax code for small businesses and to reduce the burden for tax compliance,” they wrote. “It is part of broader efforts to make interacting with the federal government easier and more efficient for businesses of all sizes.”

The new option for the home office deduction will be available starting with the tax year 2013 return, according to Mills and Wolin, which most taxpayers file early in 2014. In addition, the IRS is accepting comments for improving upon this new option.

Current restrictions on claiming the home office deduction, such as the requirement that a home office be used regularly and exclusively for business and the limit on the amount of the deduction tied to income derived from the particular business, will still apply under the new option.

The new option provides eligible taxpayers an easier path to claiming the home office deduction. Instead of filling out the 43-line Form 8829, which often entails complex calculations of allocated expenses, depreciation and carryovers of unused deductions, taxpayers can claim the optional deduction through a significantly simplified form.

“This is a common-sense rule to provide taxpayers an easier way to calculate and claim the home office deduction,” said Acting IRS Commissioner Steven T. Miller in a statement. “The IRS continues to look for similar ways to combat complexity and encourages people to look at this option as they consider tax planning in 2013.”

While homeowners using the new option cannot depreciate the portion of their home used in a trade or business, they can claim allowable mortgage interest, real estate taxes and casualty losses on the home as itemized deductions on Schedule A. These deductions do not need to be allocated between personal and business use, as is required under the traditional method.

Business expenses unrelated to the home, such as advertising, supplies and wages paid to employees, are still fully deductible, the IRS noted.

Further details on the new option can be found in Revenue Procedure 2013-13, posted Tuesday on IRS.gov. Revenue Procedure 2013-13 is effective for taxable years beginning on or after January 1, 2013, and the IRS welcomes public comment on this new option to improve it for tax year 2014 and later years. There are three ways to submit comments.

• E-mail to: Notice.Comments@irscounsel.treas.gov. Include “Rev. Proc. 2013-13” in the subject line.

• Mail to: Internal Revenue Service, CC:PA:LPD:PR (Rev. Proc. 2013-13), Room 5203, P.O. Box 7604, Ben Franklin Station, Washington, DC 20044.

• Hand deliver to: CC:PA:LPD:PR (Rev. Proc. 2013-13), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue NW, Washington, DC, between 8 a.m. and 4 p.m., Monday through Friday.

The deadline for comment is April 15, 2013.

For more information: www.onts9.com

 

IRS Audited Mitt Romney

Mitt Romney, the presumptive Republican presidential nominee, admitted he has been audited by the Internal Revenue Service.

 

David Muir of ABC News asked Romney during an interview Sunday in Israel if he had ever paid less than a 13.9 percent tax rate, the lowest rate in the tax returns he has released so far.

“I haven’t calculated that,” Romney replied. “I’m happy to go back and look, but my view is I’ve paid all the taxes required by law. From time to time, I’ve been audited, as happens I think to other citizens as well, and the accounting firm which prepares my taxes has done a very thorough and complete job paying taxes as legally due. I don’t pay more than are legally due, and frankly if I had paid more than are legally due, I don’t think I’d be qualified to become President. I’d think people would want me to follow the law and pay only what the Tax Code requires.”

Romney has come under pressure to release more tax returns, but so far, he has only released his complete tax return for 2010 and an estimate of his taxes for 2011. A complete version of the 2011 return has been promised for release before the election.

 

For more information: www.onts9.com

 

IRS Increases Audits of Wealthy

The Internal Revenue Service has been increasing its audits and examinations of high-income individuals in the past year, examining nearly 30 percent of the tax returns of those earning $10 million and more, nearly twice the rate of a year earlier.

Last year, the IRS examined 29.93 percent of individual income tax returns, compared to about 18 percent the previous year, according to CNN Money. Taxpayers with incomes between $5 million and $10 million were examined at a rate of 20.75 percent, compared to about 12 percent in fiscal year 2010. Those with incomes between $1 million and $5 million were audited at a rate of 11.8 percent, compared to about 7 percent a year earlier. Overall, about 1.1 percent of taxpayers were audited in FY 2011, about the same rate as in FY 2010.

IRS Commissioner Doug Shulman warned Congress during a hearing about tax season on Thursday that if budget cuts at the agency continued, the service would be forced to cut down on its audits. The agency endured a $300 billion cut in its fiscal 2012 budget, leading to effects such as long waiting times for telephone assistance. Shulman predicted that tax compliance rates would likely go down as word spread that the audit rates were decreasing as a result of further budget cuts.

Other significant information in the IRS FY 2011 Data Book included the fact that the IRS collected $2.4 trillion and processed more than 234 million tax returns from Oct. 1, 2010, to Sept. 30, 2011. Taxpayers electronically filed more than 133 million business and individual income tax returns, including 77 percent of all individual income tax returns. More than 119 million individual income tax returns, about 83 percent of all individual returns, resulted in tax refunds, totaling almost $338 billion. The IRS examined 1.1 percent of all individual income tax returns and 1.5 percent of corporation income tax returns (excluding S corporation returns).  The IRS provided taxpayer assistance through 319 million visits to IRS.gov and assisted nearly 83 million taxpayers through its toll-free telephone helpline or at walk-in sites.

For more information: www.onts9.com