Ah, parenthood. It's busy, right?
If you're feeling overwhelmed having to juggle childcare and an array of other responsibilities, you may want to consider hiring a nanny. But- every parent knows the cost of good child care is expensive and always on the rise.
Luckily for all the parents out there, hiring a nanny has some pretty great tax perks, and you may be eligible for two tax options that can help defray some of the costs, helping your investment in childcare to pay for itself.
That's right: hiring a nanny may save you money on your taxes. We consider that a win-win! Read on for the deets on those tax breaks.
Two Tax Saving Options for Hiring a Nanny
Option 1: The Child and Dependent Care Credit
Another major way that hiring a nanny can save you money on taxes is through the Child and Dependent Care Credit, otherwise known as the Child Care Tax Credit.
The Child Tax Credit is a refundable tax credit of up to $3,600 per qualifying child under 18. The credit begins to phase out when adjusted gross income reaches $75,000 for single filers, $150,000 for joint filers and $112,500 for head of household filers. You can receive up to a $3,600 credit for one child, or up to $6,000 for two children.
It's about time you were rewarded for juggling two toddlers at once!
Like most good things, there are still some requirements needed to qualify for the credit, which you can find on the IRS site. If you qualify, you can access a tax credit of 20-30% of your childcare expenses.
In order to qualify for the Child and Dependent Care Credit, you have to either file your taxes as an individual, or as a married couple filing jointly. Your child must be under the age of 13, too. (sorry, parents of teens!).
When you file your taxes and claim the Child and Dependent Care Credit, you’ll need to provide the IRS with the name, address, and social security or employer identification number of the organization or individual that you hired to provide childcare. (Whew, that's a lot!)
Good news! Happiest Nanny makes claiming this credit super simple, by providing you with the appropriate documentation, nanny care expense tracking, and employer identification number required to make claiming your tax credit as fast and easy as possible.
The IRS has a handy tool you can use to determine whether you're eligible for the Child and Dependent Care Credit. It only takes about 10 minutes to complete — the equivalent of one nap for your little human.
Option 2: Dependent Care FSA
If you have a nanny or caregiver for a dependent, you can save money on your taxes by opening a Dependent Care FSA, or flexible spending account. You can add money to this account pre-tax. In other words, if you invest $200 in the account, you do not have to pay tax on that $200, which reduces your overall tax burden while saving money on childcare expenses (woot woot!).
And while not everyone is eligible for Dependent Care FSAs, you generally qualify if your child is under age 13 (sorry again parents of teens!). There are also some restrictions as to how you can use the pre-tax dollars invested in the account, however you can absolutely use them for nanny expenses, daycare, summer day camp, or in some cases, preschool.
How does a Dependent Care FSA Work?
Most people contribute to the account directly through their employer, signing up during an open enrollment period. The money is deducted and placed in your FSA before it even reaches your paycheck. Then, you can use the money, as needed, to pay your nanny.
First, you would determine much money you would like to contribute to your Dependent Care FSA. Each year the IRS determines the maximum amount you can contribute, and for 2021, those who are married and file taxes jointly can contribute up to $10,000. Those who file individually can contribute up to $5,500 a year.
Please note that as with many benefits, once you make an election for the FSA, you cannot change the contribution amount unless there's a change in status or you terminate your employment. For instance, if there's a change in the number of dependents or marital status.
Your contribution amount is then deducted from your nanny’s paycheck in pre-tax dollars and deposited into a dedicated account. The deduction is done throughout the year in equal portions, no matter how often you're paid. From there, you’d handle your respective expenses out of pocket, and file a reimbursement claim by providing proof of payment, at which point your company will reimburse you for the expense out of the FSA. By paying your nanny through a Dependent FSA, you can save up to $6,000 per year for one child.
Remember to keep your receipts and any other supporting documentation. They’ll come in handy when filing for reimbursement!
Which Option is Right for Your Family?
With a full-time nanny, you can use both the Dependent Care FSA and Child Care Tax Credit. For instance, if you have two children under 13 and contribute the maximum $5,000 to your company's FSA, you could claim an additional $1,000 on the Child Care Tax Credit to hit the $6,000 maximum.
Example 1: If you're married, and in the upper echelon of the tax bracket, you can contribute up to $10K to your FSA and save approximately $6K in taxes toward the childcare of one child. The FSA approach works great for this use case.
Example 2: If you are unmarried with two children, you can save up to $6,000 for both children whereas you'd only be eligible for a possible tax savings of $5,500 with your FSA contribution (which is less than $6,000 in potential tax savings the Childcare Tax Credit would provide). Childcare Tax credit is likely the better option in this scenario.
In many cases, you’ll have to go with either the Dependent Care FSA or the Child Care Tax Credit. Before deciding on an option, it’s best to do the homework and calculate your total child care expenses per year to find out the benefits you would receive with each. Your expenses can include your nanny’s wages, the wages paid to a backup child care provider, the taxes you’ll sustain on your nanny’s wages and even payment toward a placement agency.
There is no income limit on the FSA or the Child or Dependent Care Tax Credit, so you won’t have to worry about making too much money when determining your eligibility.
It's always a good idea to consult with a tax professional to determine the right option for you and your family. This way, you can maximize tax savings with whichever option you choose.
Tax Advantages Make Nanny Services Affordable
If you're like most people, you want to keep your tax burden as low as possible. Hiring a nanny is a great way to do that, while also freeing up a few of your hours with help from someone caring for your kids. And while many families initially assume that hiring a nanny may stretch their budget pretty thin, after considering the tax benefits associated with childcare service, you may find it's more affordable than you thought!
The Child and Dependent Care Tax Credit alone can put several thousand dollars back into your pocket, and contributing to a Dependent Care FSA can further reduce your tax burden. Even hiring a nanny for one or two afternoons per week can give you more time to get important things done on your own — and with these tax benefits, this option can be very affordable.
And let’s admit it- after a couple of kids, grocery shopping or blasting the music in your car alone is so freeing!
How do families manage all of this?
After reading through all of your tax considerations here, you might find yourself wondering, “These are great tax breaks- but how will I do it all? How do I monitor the hours my nanny has worked? How will I pay her taxes? Does she even need insurance? What do I do now?”
We've got you!!
When you sign up for HappiestNanny, we’ll do ALL of the heavy lifting for you. Yes, that means handling any legal, contractual, insurance, or tax requirements that the nanny has. All you’ll need to do is pay the required hours to your nanny employee. Our intelligent platform will allow you to qualify your FSA and/or keep track of how much to apply to the child care tax credit- paying for itself completely, and giving you a nice bump on your end of year filings.
Sounds like a dream? Create your free family profile, find your nanny, and experience the process firsthand today!