Proper Hiring and Tax Withholding Guidelines for Domestic Employees

Do you or your clients have household help? Does your client have a nanny or babysitter, cleaning person, domestic worker, caretaker, health aide or private nurse? Numerous times in the past, the subject of household help has made national headlines – most notably concerning political figures who faced violations that surfaced regarding proper hiring and tax withholding guidelines for domestic employees.

In a complex world, household employees can help simplify our lives. But, the payroll tax implications associated with a household employee can be complicated. To avoid the headaches of reporting all of the necessary data, many employers of household help often hire workers “off the books.” However, is it worth the risk?

The IRS continues to scrutinize the proper employment of household employees. There is no statute of limitations for failure to pay household employment taxes. Therefore, a household employee could file for social security and unemployment benefits many years down the road. In addition to owing back taxes if caught, employers could also face significant fines, penalties, and interest charges. In some instances, blatant employment violations could also compromise the professional licenses of some employers.

As a trusted advisor to your clients, it is best to share the reality of household employer responsibilities and the importance of this worker classification at the onset of the employment relationship, to help avoid financial risk in the future. Reporting household employee wages and paying employment taxes is the law. It is also the right thing to do for the household help to ensure they are receiving the appropriate benefits and protections as a worker. Therefore, it may simply not be worth the risk – it is best to pay household employees the proper way – “on the books.”

This material identifies federal requirements for household employees. For federal information, including information on determining if the person(s) hired is considered an employee for employment tax purposes, visit the IRS website (www.irs.gov) and see Publication 926, Household Employer’s Tax Guide. Additionally, more information on employee status can be found in the Fair Labor Standards Act, on www.dol.gov.

Determining Worker Status

Be sure to accurately identify the household worker’s status as either an employee or independent contractor under the applicable law(s).

Generally, a household worker who performs services that are subject to the will and control of the payer, as to both what must be done and how it must be done, will be considered an employee for employment tax purposes. With that “employee” status, comes effort and paperwork. More information on determining worker status can be found in IRS Publication 15-A, Employer’s Supplemental Tax Guide.

Household Employer Responsibilities

Below, please find the federal responsibilities for household employers if it is determined that a household worker is, in fact, an employee for employment tax purposes.

Federal Employer Identification Number and Registrations

- If you do not already have one, a household employer must get an employer identification number (EIN), using Form SS-4.

- Complete Form I-9, Employee Eligibility Verification Form to verify work authorization.

Federal Employment Taxes

Social Security and Medicare. Withhold and pay social security and Medicare taxes if cash wages of $1,900 or more in 2014 are paid to any one household employee. Do not count wages paid to your spouse, your child under the age of 21, your parent, or any employee under the age of 18 at any time in 2014. See IRS Publication 926 for more details on exclusions.

Federal Unemployment. Pay and report federal unemployment tax if cash wages of $1,000 or more in any calendar quarter of 2013 or 2014 are paid to all household employees combined. Do not count wages you pay to your spouse, your child under the age of 21, or your parent. See IRS Publication 926 for more details on exclusions.

Federal Income Tax. Withhold and pay federal income tax if requested by the household employee (Form W-4, Employee Withholding Allowance Certificate completed by employee). Federal income tax withholding is optional on the part of the household employer, unless the employee asks for it and you agree to it.

Federal Wage and Hour Law Requirements. Household employers must meet federal wage and hour requirements under the Fair Labor Standards Act including but not limited to minimum wage and overtime requirements, where applicable. The U.S. Department of Labor, Wage and Hour Division can provide additional information at www.dol.gov. 

Form 1040

When filing your federal income tax return, use Schedule H (Form 1040), Household Employment Taxes, to calculate your total household employment taxes (Social Security, Medicare, FUTA, and withheld federal income taxes). Add these household employment taxes to your income tax. Attach Schedule H to Form 1040.

If you want to make estimated tax payments to cover household employment taxes, get Form 1040-ES, Estimated Tax for Individuals. If you did not pay enough income and household employment taxes during the year, you may be subject to the estimated tax underpayment penalty. See IRS Publication 505, Tax Withholding and Estimated Tax, for information about this penalty.

Form W-2

Prepare and provide your employee Copies B, C, and 2 of Form W-2, Wage and Tax Statement, if applicable. Send Copy A of Form W-2, with transmittal Form W-3, to the Social Security Administration, if applicable.

Form 941, Form 943, or Form 944

If you own a business as a sole proprietor or your home is on a farm operated for profit you can choose to pay the household employment taxes with the business or farm employment taxes, and include the applicable amounts on Form 941, 943, or 944 for your business.

File Form W-2 for the household employee with the Forms W-2 and W-3 for your business employees. Include the household FUTA tax on your Form 940. For more information, see IRS Publication 15.

State Requirements

States generally follow federal rules regarding domestic employees. There are exceptions, so please refer to your state’s laws.

State Income Tax. This tax is withheld if the employee requests withholding and the employer agrees. See your state regulations for details.

State Unemployment Insurance (SUI). Some states follow the federal rules for unemployment insurance reporting for domestic employees; however, some set their own. Check with your state for SUI reporting requirements.

Workers’ Compensation. Check your state laws regarding workers’ compensation insurance. Some homeowners’ policies may already provide coverage for domestic workers.

State Disability Insurance. In some states, individuals who hire domestic employees are required to contribute to a state disability insurance fund while some states require employers to withhold disability taxes from the employee’s pay.

State & Municipal Labor Law Standards. Some states and municipalities have additional requirements regarding minimum wage standards, overtime requirements, written wage notices (or employment agreements), detailed pay stubs, paid sick leave and paid vacation.

Conclusion

Managing household taxes and payroll responsibilities may be a complex process for busy families. This is why some people are inclined to pay household help “off the books.” But, as pointed out, this is not a wise decision. To avoid the headaches with paying a household employee, some people hire the employee directly from an employment agency. Or, as an alternative, you can use a payroll company.

Sidney Kess, CPA, J.D., LL.M., has authored hundreds of books on tax-related topics. He probably is best-known for lecturing to more than 700,000 practitioners on tax and estate planning.