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Avoid the nanny tax pitfalls

Balancing work and child rearing is challenging enough. But if you get outside help for these chores, you'll also have to decipher the complexities of tax and labor law.

This is exactly the situation faced by many Americans who pay for child care. And if this helper regularly comes to you, rather than you dropping Jimmy and Susie off at a day care center, then you'll likely pay Uncle Sam as well as your nanny.

Although it's popularly referred to as the "nanny tax," any household help -- including a gardener, private nurse or maid -- is going to cost you more than salaries. In most cases, you also have to pay employment taxes for domestic workers.

Correctly complying with the rules is important not only to your employees, but also to your own tax bottom line. Household employment taxes are folded into your personal income tax return, so you need to keep track and figure them accurately. If you don't, it could cost you even more.

Tax types and limits

There are two separate employment taxes to consider. Whether you're responsible for either hinges on the amount you pay and how much control you have over the way the job is done.

First is FICA, the Federal Insurance Contributions Act amount that almost every wage earner sees taken out of his or her paycheck. This tax money goes to pay for the worker's future Social Security and Medicare distributions.

If you paid a household employee $1,700 or more in 2009, you must pay FICA taxes for that person. (The 2010 earnings threshold remains at that level.) This 15.3 percent tax generally is split equally between the worker and boss, with each paying 6.2 percent of income toward Social Security, plus 1.45 percent for Medicare.

Then there is the Federal Unemployment Tax Act, or FUTA, payment that covers unemployment compensation to workers who lose their jobs.

The unemployment tax is paid only by the employer. It's required if your total household salaries are $1,000 or more in any calendar quarter. You generally must pay unemployment tax on the first $7,000 of wages you pay each household employee.

The unemployment tax is 6.2 percent of your employee's FUTA wages. However, you may be able to take a credit of up to 5.4 percent, effectively making your employer tax payment just 0.8 percent. To take the full credit on your 2009 return, you must make all of that year's required contributions to your state unemployment fund by April 15. The credit is reduced of payments made after that date.

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State taxes, too

Don't forget about state obligations. You also might need to pay state unemployment taxes. Check with your state's unemployment tax agency; a list of offices is included in IRS Publication 926, Household Employer's Tax Guide.

Many states also require you to pay for workers' compensation in case your employee is injured on the job.

Who's the boss?

What you pay your help isn't the only consideration when it comes to employment taxes. The control factor is just as important.

A household worker is your employee if you directly manage not only what work is done, according to the Internal Revenue Service, but also how it is done. It doesn't matter if the worker is full time or part time or whether you pay on an hourly, daily or weekly basis or by the job. If you are in charge of job particulars, the IRS deems you in control and you must pay the appropriate taxes.

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