Now that we’re in the throes of tax season, it’s a good time for a primer on the tricky tax rules for caregivers.
If your mom or dad will need someone to assist them, you’ll want to understand the three crucial points to stay compliant with the law — and to take advantage of tax breaks.
Determine Who the Employer Is
Understanding who the Internal Revenue Service (IRS) considers the caregiver’s employer is the part of these tax rules that confuses people the most.
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Household employer status is usually determined by who is giving direction to the caregiver. Generally, the IRS says the person receiving the care — or his or her spouse — is the employer.
However, if the elderly person is unable to give direction to the caregiver, an adult child can be considered the employer for tax purposes. This scenario is especially common in eldercare situations where a parent lives in the adult child’s home because he can no longer take care of himself. Since the caregiver works in the son or daughter’s home and follows that person’s directions, the adult child would be considered the employer.
Know the Employer’s Tax Obligations
Once a caregiver is paid $1,900 or more during a year (the figure was $1,800 for 2013), the employer must meet household employer tax obligations. Sometimes, this rule is known as the “nanny tax,” but it also applies to caregivers for the elderly.
There are eight key tax obligations for the caregiver’s employer:
1. Obtain federal and state household employer tax IDs. You’ll get a Federal Employer Identification Number (EIN) from the Internal Revenue Service (IRS) and a state ID from your state’s tax agency. These numbers identify you as a household employer when you file your tax returns.
2. Calculate and withhold taxes for the caregiver. You’ll need to withhold Social Security & Medicare (FICA) taxes from your caregiver’s pay each pay period. You’re not required to withhold federal and state income taxes, but it’s a good idea. That way, your caregiver won’t end up with a large tax bill at year’s end.
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3. Track all of your employer taxes for the caregiver. As a household employer, you have a matching portion of FICA taxes to track each pay period as well as federal and state unemployment insurance taxes. Other small taxes may need to be accounted for depending on the state you live in.
4. File federal estimated tax payments four times a year. Using IRS Form 1040-ES, you’ll send the IRS the FICA and federal income taxes you’ve withheld from your caregiver and the federal unemployment insurance and FICA taxes you owe.
5. File state employment tax returns and remit state tax dollars. Generally each quarter, you’ll need to file state tax returns as the caregiver’s employer. At that time, you’ll send the state the unemployment taxes you owe for her or him and the income taxes you’ve withheld from your caregiver.
6. Prepare and distribute Form W-2 to your caregiver at year-end. The caregiver will need this to file a tax return reflecting income earned.
7. Prepare and file with Social Security the Form W-3 and Form W-2 Copy A. You may also have to file an annual reconciliation form with the state to summarize your tax activity for the year.
8. For your personal federal income tax return, prepare the Schedule H form. It’s the form for household employment taxes.
Claiming the Tax Breaks
The caregiver’s employer may also be entitled to tax breaks to offset the tax liability. The person entitled to the writeoffs could be your parent, if he’s the employer, or you — if you are.
If the employer is your elderly parent who’s receiving the care, he or she may be able to claim an itemized deduction for certain caregiving costs as medical expenses. But medical expenses must exceed 7.5 percent of adjusted gross income to be deductible and only “qualifying” expenses — such as those prescribed by a licensed health care professional — can be written off.
Qualifying expenses may include the wages paid to the caregiver for services connected with caring for the elderly person’s condition, such as giving medication, changing dressings, bathing or grooming. But wages paid for performing household tasks, such as cooking and cleaning, do not count.
If you, the adult child, are considered the employer for tax purposes, you may claim the medical expense deduction or, if your parent qualifies as your dependent, you may be able to instead claim other tax breaks, through a dependent care Flexible Spending Account (FSA) or the Tax Credit for Child or Dependent Care (which is claimed on IRS Form 2441).
Using these dependent care tax breaks can save between $600 and $2,300 in employer tax costs per year. Just be aware that you can’t claim the same expenses for the medical expense deduction and either of the dependent care tax breaks.
The rules explaining when your parent can be considered your dependent are complicated. But the key is that you provided more than half his support during the year and that he had gross income of less than $3,900 (generally excluding Social Security).
This can all seem daunting, but handling caregiver taxes is actually easier than it looks — and the tax breaks make the process worth the effort. But you can also look into hiring a payroll company to do the work for you, leaving you to focus on the care you provide for your loved ones.