Seven Steps Toward Nanny Tax Compliance
By: Richard M. Colombik, JD, CPA and Cary R. Rosenthal, JD
RICHARD M. COLOMBIK AND ASSOCIATES, P.C.
In June 1993, most observers pegged Stephen Breyer as the odds on favorite for appointment to the Supreme Court seat vacated by Justice Byron White. Amidst reports of Mr. Breyer?s failure to pay Social Security taxes, President Clinton passed over Breyer?s appointment in favor of Ruth Bader Ginsberg. Breyer, a ?brilliant jurist who taught antitrust law at Harvard and reads Proust in French?, eliminated his ?pesky Zoe Baird problem? by paying the taxes, only to have the IRS determine that he didn?t owe the money after all.1
All?s well that ends well. Stephen Breyer, the dutiful taxpayer, later secured a Supreme Court seat upon Justice Harry Blackmun?s retirement. But what happened to Zoe Baird, after President Clinton withdrew her attorney general nomination in 1993 due to her failure to pay Social Security taxes on her children?s nanny? She secured the dubious honor of having this particular malady named after her.
Ms. Baird was hardly alone in 1994. The IRS estimated two million Americans failing to pay or report the ?nanny taxes? for household workers in 1994. The IRS believed that only 25 percent of household workers were in compliance. Experts blamed this failure to comply, in part, on complicated and time consuming compliance requirements. Under prior law, household employers filed 6 to 18 employment and unemployment tax forms annually, depending on where they lived and how much they paid. It was far easier to dispense with the formalities. Household workers did not complain about evading income taxes. Congress designed the Social Security Domestic Reform Act of 1994, signed into law by President Clinton on October 22, 1994, to ?decriminalize? high-school baby sitters by raising filing thresholds and eliminating paperwork.2
Some suggest that the new and improved requirements are anything but simple. Any well-read, bilingual, Harvard law professor should be able to follow these seven steps, gleaned mostly from Internal Revenue Service Publication 926, Household Employer?s Tax Guide for Wages Paid in 1998.
Determine whether the household worker is an employee, or independent contractor.
Household work is work done in and around the home by babysitters, nannies, health aides, private nurses, maids, caretakers, yard workers, and similar domestic workers. A household worker is one hired by the taxpayer to perform household work.
A household worker is a taxpayer?s employee if the taxpayer controls what work is done, and how it is done, regardless of whether the worker works full or part time, was hired through an agency or from a list provided by an agency or association, or whether the worker is paid hourly, daily, weekly, or by the job.
A household worker is self-employed only if the worker controls how the work is done. Self-employed workers usually provide their own tools and offer their services to the general public in an independent business. If an agency provides the worker, controls what work is done, and how it is done, then the worker is the agency?s employee and not the taxpayer?s.
If the worker is not an employee, then no further tax compliance is required. If the worker is an employee, the next step is to determine whether that employee may legally work in the United States.
Determine whether the employee legally works in the United States?
It is unlawful to knowingly hire or continue to employ an alien who cannot legally work in the United States. Household employees must complete the employee portion of Immigration and Naturalization Service (INS) Form I-9, Employment Eligibility Verification. The taxpayer must then verify that the employee is either an U.S. citizen or an alien who may legally work, and complete the employer part of the form. The taxpayer, employer retains Form I-9.
Determine whether employment taxes must be paid.
If the taxpayer pays cash wages of $1,100 or more in 1998 to any one employee, not including the taxpayer?s spouse, children under age 21, parent, or other employee under age 18 during the 1998 tax year, then the taxpayer must withhold and pay social security and Medicare taxes. The taxes are 15.3% of cash wages. The employee?s share is 7.65%, and the employer?s matching share is 7.65%. The employer, taxpayer is liable for the employee?s share regardless whether the taxpayer withholds it from the employee.3
If the taxpayer pays cash wages of $1,000 or more in any calendar quarter of 1997 or 1998 to household employees, not including the taxpayer?s spouse, children under age 21, or parents, then the taxpayer must pay federal unemployment tax. The tax is usually 0.8% of cash wages. Wages over $7,000 a year per employee are not taxed. The taxpayer may also owe state unemployment tax.
If neither a nor b applies, the taxpayer may still need to pay state employment taxes, depending on the particular state.4 Taxpayers who employ household employees are not required to withhold federal income tax from the household employee?s wages.5
If the household employee cares for the taxpayer?s dependent who is under age 13, or the taxpayer?s spouse or dependent who is not capable of self care, and the household employee by his or her services permits the taxpayer to work, then the taxpayer may be able to claim an income tax credit of up to 30% of the expenses, including the employer?s share of the federal and state employment taxes.6 This credit is claimed on Form 2441.
Cash wages include wages paid with checks, money orders, and other negotiable instruments. Cash wages do not include the value of food, lodging, clothing, or other noncash items given to household employees. Reimbursement, up to $65 per month, for commuting to the taxpayer?s home by public transportation is also excluded from cash wages.
Obtain an employer identification number (EIN) by February 1, 1999.
- Obtain and fill out Form SS-4, Application for Employer Identification Number.
- Obtain the telephone number for the taxpayer identification number at the applicable IRS Service Center. This number is in the Form SS-4 instructions. Inquire as to the procedure for obtaining the number. Service Center procedures vary, but each has a fax number and a specific ?stop? to send in Form SS-4.7
Prepare Form W-2, Wage and Tax Statement. Give the employee Copies B, C, and 2 of Form W-2 by February 1, 1999.
Send Copy A of Form W-2 to the Social Security Administration by March 1, 1999. The address for submission is: Social Security Administration, Data Operations Center, Wilkes-Barre, PA 18769-0001.
File Schedule H, Household Employment Taxes, with Form 1040 or 1040A by April 15, 1999. The amount shown on Schedule H is carried over to line 52 of Form 1040. The address for filing is listed in the attached filing Schedule.
Taxes are not due until the return is filed. The IRS however, may penalize taxpayers for under withholding. Under withholding applies not only to income tax but also the household workers employment and unemployment taxes as well. Taxpayers may make estimated quarterly income tax payments, or increase withholding from their wages to forestall penalties.
The seven steps outlined above pertain only to federal compliance. The various states have their own schemes for withholding taxes and unemployment taxes. Most state taxing authorities are often more difficult to deal with than the IRS. While Congress has eliminated federal quarterly returns for household employees, many states still require quarterly filings. You must check with the State of employment regarding their particular requirements.
So Has This Simplified Scheme Worked?
Perhaps the critics are correct and this new scheme is not so simple. It is, however, far easier than filing Form 942 every quarter under the former procedure. Did this new, more user friendly, scheme result in the anticipated increased compliance? If you believe the IRS, the number of people paying the tax actually fell 40 percent! In 1994 almost 500,000 filed Schedule H. In 1995 that number fell to under 300,000. The number increased slightly in1996 314,000 Schedule H filers. The IRS believes that as many as 4 million taxpayers now owe the nanny taxes each year. That means, if the IRS is to be believed, fewer than 1 in 13 taxpayers are in compliance, compared with 1 in 8 taxpayers under the old system.8
One final interesting, and perhaps most revealing taxpayer statistic: since Congress and President Clinton enacted the new, simplified compliance laws, despite the estimated millions of tax evaders, the IRS has only caught two taxpayers with that Pesky Zoe Baird problem.9
Perhaps millions of taxpayers have never heard of Zoe Baird only Monica Lewinsky?
Where Do I File?
If an envelope addressed to ?Internal Revenue Service Center? came with your tax booklet, please use it. If you do not have one or if you moved during the year, mail your return to the Internal Revenue Service Center for the place where you live. No street address is needed.
Alabama?Mermphis, TN 37501- 0002 New York?New York City and counties of
Alaska?Ogden, UT 84201-0002 Nassau, Rockland, Suffold and
Arizona?Ogden, UT 84201-0002 Westchester, NY 00501-0002
Arkansas?Memphis, TN 37501-0002 All other counties?Andover, MA
California?Counties of Alpine, Amador, North Carolina?Memphis, TN
Butte, Calaveras, Colusa, Contra Costa, 37501-0002
Del Note, El Dorado, Glenn, Humboldt,
Lake, Lassen, Marin, Mendocino, Modoc, North Dakota Ogden, UT 84201-0002
Napa, Nevada, Placer, Plumas, Ohio?Cincinnati, OH 45999-0002
Sacramento, San Joaquin, Shasta, Oklahoma?Austin, TX 73301-0002
Sierra, Sisklyou, Solano, Sonoma, Sutter, Oregon?Ogden. UT 84201-0002
Tehama, Trinity, Yolo, and Yuba - Pennsylvania?Philadelphia, PA
Ogden, UT 84201-0002
All other counties?Fresno CA 93888-0002 Rhode Island ?Andover. MA 05501-0002
Colorado?Ogden, UT 84201-0002
Connecticut?Andover. MA 05501 -0002 South Carolina?Atlanta, GA 39901-0002
Delaware?Philadelphia PA 1925i -0002 South Dakota?Ogden, UT 84201-0002
District of Columbia? Tennessee?Memphis, TN 37501-0002
Philadelphia, PA 19255-0002 Texas?Austin, OX 73301-0002
Florida?Atlanta, GA 39901-0002 Utah?Ogden, UT 84201-0002
Georgia?Atlanta. GA 39901-0002 Vermont?Andover, MA 05501-0002
Hawaii?Fresno, CA 93888-0002 Virginia?
Idaho?Ogden, UT 84201-0002 Washington?Ogden, UT 84201-0002
Illinois?Kansas City, MO 64999-0002 West Virginia?Cincinnati, OH 45999-0002
Indiana?Cincinnati, OH 45999-0002 Wisconsin?Kansas City, MO 64999-0002
Iowa?Kansas City, MO 64999-0002 Wyoming?Ogden, UT 84201-0002
Kansas?Austin, TX 73301-0002 American Samoa?Philadelphia, PA
Kentucky?Cincinnati, OH 45999-0002 19255-0002
Louisiana?Memphis TN 37501-0002 Guam: Permanent residents?
Maine?Andover, MA 05501-0002 Government of Guam
Maryland?Philadelphia, PA 19255-0002 P. O. Box 23607
Massachusetts?Andover, MA GMF, GU 96921
05501-0002 Guam: Nonpermanent residents?
Michigan?Cincinnati, OH 45999-0002 Philadelphia, PA 19255-0002
Minnesota?Kansas City, MO 64999-0002 Puerto Rico (or if excluding income under
Internal Revenue Code section 933 -
Mississippi?Memphis, TN 37501-0002 Philadelphia, PA 19255-0002
Missouri?Kansas City, MO 64999-0002 Virgin Islands: Nonpermanent
Montana?Ogden, UT 84201-0002 residents?
Nebraska–Ogden, UT 84201-0002 Virgin Islands: Permanent residents
evada–Ogden, UT 84201-0002 V. I. Bureau of Internal Revenue
New Hampshire?Andover, MA Charlotte Amalie
05501-0002 St. Thomas, Vl 00802
New Jersey?Holtsville, NY 00501-0002 Foreign country: U.S. citizens and those
New Mexico?Austin, TX 73301-0002 filing Form 2555, Form 2555-EX, or Form
4563?Philadelphia, PA 19255-0002
All PA and FOP addresses?
Where to Apply for Form SS-4
The Tele-TIN numbers listed below will involve a long-distance charge to callers outside of the local calling area and can be used only to apply for an EIN. The numbers may change without notice. Call 1-800-829-1040 to verify a number or to ask about the status of an application by mail.
If your principal business office of agency, Call the Tele-TIN number
or legal residence in the in the case of an shown or file with the
individual, is located in: Internal Revenue Service at:
Florida, Georgia, South Carolina 770-455-2360
New Jersey, New York City, and counties of
Nassau, Rockland, Suffolk, and Westchester 516-447-4955
New York (all other counties), Connecticut,
Maine, Massachusetts, New Hampshire,
Rhode Island, Vermont 978-474-9717
Illinois, Iowa, Minnesota, Missouri, Wisconsin 816-926-5999
Delaware, District of Columbia, Maryland
Pennsylvania, Virginia 215-516-6999
Indiana, Kentucky, Michigan, Ohio, West Virginia 606-292-5467
Kansas, New Mexico, Oklahoma, Texas 512 460 7843
Alaska Arizona, California (counties of
Alpine, Amador, Butte, Calaveras, Colusa,
Contra Costa, Del Norte, Glenn, Humbolt,
Lake, Lassen, Marin, Mendocino, Modoc,
Napa, Nevada, Placer, Plumas, Sacramento,
San Joaquin, Shasta Sierra, Sisiyou, Solano,
Sonoma, Sutter, Tahema, Trinity, Yolo, and
Yuba) Colorado, Idaho Montana, Nebraska,
Nevada, North Dakota, Oregon, South Dakota,
Utah, Washington, Wyoming 801-620-7645
California (all other counties), Hawaii 209-452-4010
Alabama, Arkansas, Louisiana, Mississippi
North Carolina, Tennessee 901-546-3920
If you have no legal residence, principal
place of business, or principal office or
agency in any state 215-516-6999