Nanny Tax Definition

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Nanny Tax Definition

What Is a Nanny Tax?

A nanny tax is a government tax levied on those who hire home servants and pay compensation in excess of a particular amount. In 2021, social security and Medicare taxes must be withheld at a rate of 15.3% for cash salaries of $2,300 or more per employee, with the employer and employee both contributing half (7.65%). Employers that pay cash earnings of $1,000 or more each quarter per employee must pay a 6% unemployment tax on yearly cash wages up to $7,000.

Understanding the Nanny Tax

Babysitters, nannies, butlers, and chefs are examples of household personnel whose work is regulated by the employer. The nanny tax occurs because the IRS considers a regular domestic assistant to be an employee of the taxpayer rather than an independent contractor. As a result, the taxpayer becomes an employer and is responsible for paying Social Security, Medicare, and federal and state unemployment taxes on the earnings paid to that employee. There may also be state-level nanny taxes. IRS Publication 926 details the federal and state nanny tax rules.

For example, if a taxpayer pays a $50 weekend babysitter, they must pay nanny taxes (52 weekends/year x $50 = $2600). If the babysitter is the taxpayer’s parent or spouse, or if the babysitter is under the age of 18 and not principally involved in the home employment profession, the nanny tax does not apply. Nanny taxes are also not relevant if a taxpayer employs household assistance via an employment agency, since the agency is the employer and must pay the corresponding tax.

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The nanny tax allows a home employee to access covered job benefits and protections including Social Security, Medicare, and unemployment insurance. It also offers a verifiable income and a legal job history to a home employee, which might be useful when applying for a credit card, loan, or mortgage. The nanny tax also enables employers to benefit from large tax savings via a Flexible Spending Account and the Child and Dependent Care Credit.

Key Takeaways

  • A nanny tax is a government mandated tax levied on those who hire home servants and pay salaries above a particular level.
  • An ongoing domestic aide is classified by the IRS as a household employee rather than an independent contractor.
  • The nanny tax entitles home workers to various benefits and protections, including Social Security, Medicare, and unemployment insurance.
  • Employers and workers pay an equal amount of social security and Medicare taxes on cash salaries (7.65% total).

Nanny Tax Requirements

Taxpayers who have home workers must register as employers and get an employer identification number in order to interact with the IRS and other government authorities. Employers that fail to pay employment taxes may face fines, while families who misclassify a domestic employee as an independent contractor may face tax evasion charges.

In 2021, the Social Security withholding rate is 6.2%, while the Medicare withholding rate is 1.45%, for a total of 7.65% taken from all cash income. Both the employee and the employer are liable for paying 7.65% of the tax, however some companies prefer to pay the whole 15.3%.

Those searching for housekeeping assistance may be dismayed to learn about the intricacies of tax compliance. Fortunately, there are several nanny payroll programs available to assist in automating part or all of the payroll process.

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