What are nanny taxes?
Well, I dare you to call either the state department of revenue or the IRS and ask that question. If you manage to get ahold of a person, their response is probably going to be ‘I don’t know, what are nanny taxes?’
I’m going to walk a fine line here and wear both my EA hat and my financial advisor hat at the same time. The one hat will tell you what the law says, and the other will tell you what actually tends to happen.
Technically, if you have a household employee (read, regular or irregular babysitter or housekeeper or cook or gardener) that you pay more than $2,000 in any given tax year, you’re required to withhold employment taxes from their paycheck and pay the employer portion of FICA, Medicare, and Unemployment taxes on their income.
Household employees are almost employees, except you’re not paying them in the course of business and there’s no way to deduct their payroll like a normal W-2 employee for the business. You can deduct a limited amount of the cost as childcare expenses, but usually not the whole payroll.
However, someone told me once that some tax professional told them 95% of people who hire regular sitters don’t pay nanny taxes, and I believe them.
Typically, if you ask your tax person about needing to pay nanny taxes for the summer babysitter you’re paying $250/week, they’re going to plug their ears and pretend you didn’t ask. Why? It’s a whole lot more trouble than you think it's going to be. Its either going to be a stack of paperwork and tears of frustration every time you issue said nanny a paycheck, OR you’re going to pay a CPA/EA more money to file the paperwork than what it’s costing you in employment taxes.
To stay above-board, you absolutely need to pay your nanny taxes (says the EA), plus there can be steep penalties for not paying employment taxes when you’re supposed to. This article from MoneyUnder30.com does an awesome job of detailing the ins and outs of doing what’s right and exactly how to pay your nanny taxes.
Another question I run into is whether the family small business can hire the nanny as an employee or just issue them a 1099 as an independent contractor. The bottom-line for both of these options is that it’s been tried before, and legal precedent is not necessarily on your side.