by Kathleen Webb
When it comes to the convoluted subject of taxes, it can be easy to make mistakes. This is especially true when it comes to correctly classifying your household employees and reporting uncommon circumstances. According to a United States Department of Labor study completed in 2000, employers are incorrectly classifying up to 30% of employees, and it looks like the issue continues to worsen.. Employers that misclassify their workers often do so to evade tax liabilities, which also prevents employees from accessing required benefits. In an effort to discourage such behavior, the IRS and state governances hand out substantial penalties for such mistakes.
If you think your household workers can’t possibly qualify as employees, take another look. You may need to incorporate that weekend babysitter into your tax reporting. Similarly, your senior caregiver may also sound like a clear case of independent contracting, but in fact senior caregivers paid directly by the family should be employees and receive a W-2. This is a perfect example of a common classification mix-up. And an incorrect classification can lead to IRS and state enforcement that requires you to deliver a hefty payment to remediate the issue.
Should You Classify Your Household Workers as Employees?
The truth of the matter is that most household workers are employees. But if you’re not confident of which side of the fence your household worker falls on, ask yourself these three questions:
- Do you provide your nanny, senior caregiver, or housekeeper with their place of employment?
- Do you set your worker’s schedule and rate of pay?
- Do you have the right to direct them in how they perform their duties?
If the answer to these questions is yes, then by law that individual is almost certainly your employee. It does not matter if they are working for you full time or part time, nor does it matter where that worker came to you from (a friend’s referral, an agency, independently, or through an association). It also does not matter if you pay that worker hourly, daily, weekly, or even on a job-by-job basis. See the IRS Publication 926 for more details on what makes a worker an employee.
What to Do When Your Household Workers Classify As Employees
If your household workers do classify as employees, that means you’ll have to do a bit of up-front work to ensure you’re covered come tax time.
Get an Employer Identification Number
If you have paid taxes for employees previously, you likely already have an EIN. If you do not, you can go to IRS.gov and apply for one online. In order to obtain an EIN you must have a principal business located in the United States or U.S. Territories, and also have a valid Taxpayer Identification Number.
Checking Your Employee’s Eligibility to Work in the United States
Your employees must be legally eligible to work in the United States, with no exceptions. You should cover your bases by having your household workers fill out Form I-9 to verify their employment eligibility status. Your employee must complete the employee section of this form no later than their first day of work, and you both must attest that there is acceptable documentation to establish their identity and employment eligibility. Keep this form on file should you be asked to present evidence of employee eligibility.
Gather Your Employee’s Social Security Number
You must keep your employee’s social security number on file if you pay your employee over $2,000 per year in Social Security and Medicare wages, or you pay them any wages from which you withhold federal income tax. Take a photocopy of each employee’s social security cards for good measure, and keep the information on file.
Keep a Form W-4 on File
Keep a Form W-4 on file for each employee so that you know how much income tax to withhold from each employees’ wages. Make sure you have this form completed and effective along with your first wages paid to that employee. If you cannot get this information up-front, withhold tax as if the employee is single (do not include any allowances).
Pay for All Hours Worked
You must pay your employees for every hour they work, without exception. This means that fixed salaries for household employees are illegal, and these employees are considered non-exempt.
Pay for Overtime
Just like any standard employee, if your household workers work over 40 hours per week they are entitled to overtime pay at a rate of at least 1.5 times their regular hourly rate.
Outsourcing Your Tax Preparations
If this is your first time preparing taxes for your household workers, you may benefit from seeking professional assistance. Outsourcing to an expert can give you a hassle-free and surefire way to complete your taxes on time. It also helps confirm that your tax preparation is confusion-free and completed correctly. Putting your tax filing into the hands of a professional can save you money by preventing costly mistakes that might otherwise lead to the penalties, interest, and back taxes that come with the incorrect classification of household employees.
Establishing the correct classification of your household employees and filing your taxes appropriately can be confusing. Your first step is to establish whether or not your current workers should be classified as employees. If so, you must collect the proper employee information, keep appropriate documentation on file, and be careful to pay your employees properly along with withholding the proper taxes from their wages. You may choose to ease this complicated process with the help of professional assistance, or with the right approach you can choose to brave tax time on your own. Either way, beginning with the proper tax classification, you can avoid such a potentially problematic tax mistake. Take a self-review of your current household workers and classify your employees properly from the start to make next tax season a walk in the park.
Kathleen Co-founded HomeWork Solutions in 1993 to provide payroll and tax services to families employing household workers. Kathleen has extensive experience preparing ‘nanny tax’ payroll taxes. She is the author of numerous articles on this topic and has been featured in the Wall Street Journal, Kiplinger’s Personal Finance, and the Congressional Quarterly. She also consulted with Senate staffers in the drafting of the 1994 Nanny Tax Law.