Caring for Someone at Home? Here are the Tax Issues.

Article Highlights:

• Home Care Workers 
• Employee Payroll 
• W-2 
• 1099-NEC 
• Medical Deduction 
• Equipment and Supplies 
• Nursing Services 
• Home Modifications 

Because people are living longer now than ever before, many individuals are serving as care providers for loved ones (such as parents or spouses) who cannot live independently. It can be tough enough caring for a disabled or elderly person at home, but you also have to be aware of the tax implications, which can be both beneficial and detrimental. This article explores the various tax issues related to caring for an individual at home.

Home Care Workers – Quite often, caring for an elderly or disabled loved one at home requires obtaining assistance so you can work, sleep, or simply have a break from providing the needed care. This is especially true when caring for someone with Alzheimer’s who has to be watched closely so they don’t wander off or someone on hospice care who needs around-the-clock care.

However, if you hire someone to help you provide care in your home, neither the federal nor state tax authorities are very helpful. In fact, they make it difficult and require home workers to be treated as employees. When the worker is your employee, your liability includes both withholding and paying payroll taxes as well as issuing a W-2 after the close of the year. One alternative is to contract with an agency to use their employees to provide the needed care and handle all the payroll obligations, but it will be quite a bit more expensive.

Sure, you are thinking it is a lot easier to pay your household worker in cash so as to avoid federal and state payroll taxes and all the paperwork and hassle that goes with them. Plus, your domestic worker will likely be fully cooperative with a cash deal because he or she can also avoid paying taxes on the income you give them under the table. However, if the IRS or your state employment department finds out about these payments, the result could be very unpleasant and costly for you.

Not everyone who performs services in or around your home is classified as an employee. For instance, a plumber or electrician who makes repairs in your home will generally be a licensed contractor; the government does not classify contractors as employees.

On the other hand, the IRS has conclusively ruled that nannies, housekeepers, senior caregivers, and various other domestic workers are employees of the people for whom they work. It makes no difference if you have a written contract with the employee; similarly, the number of hours worked and the amount paid do not matter.

You are probably thinking, “Wait a minute – everyone I know with household help pays in cash, and none of them has paid payroll taxes or issued a W-2 for a household employee.” However, just because they’ve chosen to violate the law doesn’t mean you should. Also, keep in mind that if a worker gets injured on your property or you dismiss the worker under less-than-amicable circumstances, it’s a pretty sure bet that your household employee will be the first one to throw you under the bus by reporting you to the state labor board or by filing for unemployment compensation.

Some individuals try to circumvent the payroll issue by treating a household employee as an independent contractor and incorrectly issue the household employee a Form 1099-NEC (or Form 1099-MISC prior to 2020).

Medical Expense Deduction – On the bright side, home care can be a medical deduction, to the extent that the expenses exceed 7½ percent of your adjusted gross income (AGI) for 2020 (increases to 10% after 2020) and you itemize deductions rather than claiming the standard deduction. Deductible expenses include: Disabled Dependent Care Expenses – Some disabled dependent care expenses may qualify as medical expenses or work-related expenses for the purposes of taking a credit for child and dependent care. The expenses can be applied either way as long as the same expenses are not used to claim both a credit and a medical expense deduction.

Equipment and Supplies – Although there is a prohibition against deducting the cost of over-the-counter medications, that prohibition does not apply to such items as crutches, bandages, diapers, medical beds, and diagnostic devices (e.g., blood sugar kits used by diabetics). The costs of such equipment and supplies are deductible if they otherwise meet the general requirement of being used for the diagnosis, cure, mitigation, treatment, or prevention of disease.

Nursing Services – Wages and other amounts paid for in-home nursing services can be included in medical expenses. Services need not be performed by a nurse as long as the services are of a kind generally performed by a nurse. This includes services connected with caring for a patient’s condition, such as giving medication or changing dressings, as well as bathing and grooming the patient.

Generally, only the amount spent for nursing services is a medical expense. If the attendant also provides personal and household services, these amounts must be divided between the time spent performing household and personal services and the time spent on nursing services. Part of the amounts paid for an attendant’s meals are also included in medical expenses. If additional amounts for household upkeep were paid because of the attendant, include the extra amounts with the medical expenses. This includes extra utilities or rent paid; e.g., because a larger apartment was needed to provide space for the attendant.

Home Modifications – Generally, the costs of home improvements are not deductible except to offset home gain when the home is sold. However, a medical expense deduction may be claimed when the primary purpose of the home modification is for a medical reason. The tax law says that deductible medical expenses are those paid for the “diagnosis, cure, mitigation, treatment, or prevention of disease, and the costs for treatments affecting any part or function of the body.” So, if you are making the modification because you, your spouse, or a dependent has a medical need, then the modification expense may be deductible as a medical expense, but only to the extent that it exceeds any resulting increase in the property’s value. For example, a doctor recommends that a taxpayer with severe arthritis have daily hydrotherapy. The taxpayer has a hot tub installed at a cost of $21,000. A certified home appraiser determined the hot tub addition increased the home’s value by $20,000. The taxpayer’s medical deduction for installing the hot tub will only be $1,000. The other $20,000 of expenses will increase the home’s basis, meaning that it will add to the home’s cost and will offset the sales price when the home is sold.

While the tax rules don’t require a prescription from a doctor for most medically related home modifications, the taxpayer, if questioned by the IRS, needs to be able to demonstrate how the expenditure is related to his or her medical care or that of a spouse or dependent; having a letter from the individual’s doctor that explains the type of modifications that would be medically beneficial would help to prove a medical need.

Not all improvements result in an increased home value. In fact, some, such as lowering cabinets for an occupant confined to a wheelchair, could actually decrease the home’s resale value.

The IRS has identified certain improvements as not usually increasing a home’s value and for which the cost can be included in full as a medical expense. These improvements include, but are not limited to, the following items:

• Constructing entrance or exit ramps for the home; 
• Widening doorways at entrances or exits to the home; 
• Widening or otherwise modifying hallways and interior doorways; 
• Installing railings, support bars, or other modifications; 
• Lowering or modifying kitchen cabinets and equipment; 
• Moving or modifying electrical outlets and fixtures; 
• Installing porch lifts and other forms of lifts (but generally not elevators); 
• Modifying fire alarms, smoke detectors, and other warning systems; 
• Modifying stairways; 
• Adding handrails or grab bars anywhere; 
• Modifying hardware on doors; 
• Modifying areas in front of entrance and exit doorways; and 
• Grading the ground to provide access to the residence.

Only reasonable costs to accommodate a home for a disabled condition or elderly individual are considered medical care costs. Additional costs for personal motives, such as for architectural or aesthetic reasons, are not medical expenses (but may be additions to the home’s tax basis).

Please give this office a call if you have questions or need to establish a household employee payroll account.

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