Even if a household worker qualifies as an employee, you still may not have to pay federal payroll taxes.
A Little History
Before 1995, people who hired household employees were supposed to pay Social Security (FICA) taxes for any such employee who was paid more than $50 in any three-month period. FICA taxes were due for all but the most temporary household employees.
However, this requirement went largely ignored—both by employers and the IRS—until Zoe Baird, President Clinton’s first Attorney General nominee, admitted she had violated it by failing to pay FICA taxes for a full-time nanny and gardener she employed. In the wake of the Nannygate scandals involving Baird and several other presidential nominees, Congress passed the Social Security Domestic Employment Reform Act in 1994. The Act took effect in 1995 and eased tax reporting requirements for many of the estimated two million Americans who owe Social Security and other taxes on household employees.
Under the Social Security Domestic Employment Reform Act, FICA taxes need to be paid for a household worker who qualifies as an employee under the common law test only if the worker is paid more than a threshold amount. The amount is adjusted annually to account for inflation. For 2003, it was $1,400. To find out the amount for subsequent years, refer to IRS Publication 926, Household Employer’s Tax Guide. You can find a copy of that publication on the CD-ROM at the back of this article. You can also obtain it from your local IRS office or from the IRS website at www.irs.gov.
Employers who pay a household worker less than the threshold amount need not file federal tax forms for that worker. But household employees who earn less than $1,000 still must pay their own income, FICA and FUTA taxes unless their overall income is so low that they’re not required to file a tax return.
If you do pay a household employee $1,000 or more per year, however, you must comply with a number of federal tax requirements. The following IRS chart summarizes these rules.
a. FICA taxes
If you pay a household employee who is over 18 years of age $1,400 or more in cash wages in any year, you must withhold FICA taxes from the employee’s earnings and make a matching contribution. Currently, the employer and employee must each pay an amount equal to 7.65% of the employee’s wages to the IRS.
There is an exemption from FICA taxes for household employees who were under 18 any time during the calendar year and for whom household service is not a primary occupation. But FICA must be paid if domestic service is a teenager’s principal employment. In other words, FICA taxes are not due if a teenager works occasionally to earn extra money and not to earn a living. FICA must be paid, however, if a teenager does household work to earn a living. If a teenager is a student, providing household services is not considered to be his or her principal occupation.
EXAMPLE 1: The Bartons hire Eve, a 17-year-old high school student, to babysit their children two or three times a month. The Bartons need not pay FICA for Eve even if they pay her $1,400 or more during the year.
EXAMPLE 2: The Smiths hire Jane to provide childcare services in their home. Jane is a 17-year-old single mother who left school and works as a childcare giver to support her family. This is clearly her principal occupation. The Smiths must pay FICA for Jane if they pay her $1,400 or more during the year.
There is also a special exemption for family members.
b. FUTA taxes
If you pay a household employee $1,000 or more in cash wages during any calendar quarter—that is, any three-month period—you must also pay FUTA taxes. The rate varies from state to state depending on the amount of state unemployment taxes, but it is usually 0.8% of the first $7,000 of annual wages paid to an employee, or $56 per year.
Caution Beware of Changing State Laws
Most states have already amended—or are expected to amend—their unemployment taxation laws to parallel the federal rule. Check with your state labor department to find out the current requirements in your state.
c. FITW taxes
Federal income taxes need not be withheld from a household employee’s wages unless the employee requests it and the employer agrees. The employer does not have to agree. The same rule is followed under most state income tax laws.
It’s unlikely that a worker would make such a request since most workers prefer not having tax withheld from their paychecks. But if a worker does ask you to withhold income tax, it’s probably not in your interest to agree since it will create extra articlekeeping headaches for you.
d. Paying FICA and FUTA taxes
You are responsible for paying your household employee’s share of FICA taxes as well as your own. You can withhold the employee’s share from his or her wages. Withholding means you deduct the taxes due from the worker’s pay and keep it in your bank account. IRS Publication 926, Household Employer’s Tax Guide (see below), contains a table showing you how much you should withhold from the wages you pay a household employee. Instead of withholding the employee’s share of these taxes, you can pay them from your own funds. Obviously, if you do this, you should reduce the employee’s compensation to make up for the tax payments you’re making on the employee’s behalf.
Federal unemployment or FUTA taxes work differently. You cannot withhold FUTA taxes from an employee’s wages. You must pay them from your own funds.
When you file your federal income tax return, you must add to your income all the FICA and FUTA taxes due on the wages you paid your household employee. The amount you owe on this additional “income” is due to the IRS with your tax return by April 15.
If you have several household employees or pay them a lot, you could have substantial extra taxes due when you file your tax return. You can avoid this by paying estimated taxes during the year to the IRS to cover the amount of employment taxes due. Alternatively, if you are employed, you can have your employer increase the amount of federal tax withheld from your paychecks. Note that the estimated tax penalty does not apply to employment taxes for household employees for 1997 or earlier.
If you don’t pay estimated tax or have enough tax withheld from your paychecks, you may have to pay the IRS an estimated tax penalty. Basically, you’ll have to pay a penalty if the amount you have withheld from your paychecks or pay as estimated tax during the year is less than 90% of your total tax due for the current year. This amount is increased if your income is over $150,000.
CD-ROM/Document For detailed information, see IRS Publication 505, Withholding and Estimated Tax, which you can find on the CD-ROM at the back of this article.
If you withhold or pay FICA taxes or withhold federal income tax, you must file IRS Form W-2 after the end of the year. To complete Form W-2, you will need both an employer identification number and your employee’s Social Security number.
Caution Household Employers Must Obtain Federal ID Numbers
If you hire a household employee, the IRS requires that you obtain a federal employer identification number or EIN. An EIN is a nine-digit number the IRS assigns to employers for tax filing and reporting purposes. The IRS uses the EIN to identify the employer. EINs are free and easy to obtain. Use your EIN on all your employment tax returns, employment tax checks and other employer-related documents you send the IRS.
Caution You obtain an EIN by filing IRS Form SS-4, Application for Employer Identification Number, with the IRS. Filling out the form is simple and the SS-4 form has detailed instructions. You can obtain your EIN by mailing the completed SS-4 to the appropriate IRS service center listed in the form’s instructions. The IRS will mail the EIN to you in about four weeks. If you need an EIN right away, you can get it over the phone by using the IRS’s Tele-TIN program. Review the SS-4 instructions for details.
CD-ROM/Document You can find a copy of IRS Form SS-4 in Appendix 4 and on the CD-ROM at the back of this article.
CD-ROM/Document For detailed guidance, refer to IRS Publication 926, Household Employer’s Tax Guide, which you can find on the CD-ROM at the back of this article.