Caring for a Family Member? Understand the Special Tax Rules

Caring for a spouse, parent, grandparent, child, or other relative can be both emotionally demanding and financially complicated. When a caregiver receives payments from an insurance company, state agency, family member, or another program, an important question often follows:

Do those payments count as taxable income, and are they subject to self-employment tax?

The answer depends on the specific arrangement. Being related to the person receiving care does not automatically make the payments tax-free, and receiving a Form 1099 does not automatically mean the caregiver is self-employed.

Here is what family caregivers should know.

Is a family caregiver an employee?

Caregivers who provide services in the home of an elderly or disabled person are often considered household employees. This is generally because the person receiving care, or someone acting on that person's behalf, has the right to direct and control what work is performed and how it is completed.

Examples of caregiver duties may include:

• Helping with bathing, dressing, or eating

• Preparing meals

• Administering medication

• Assisting with mobility or basic exercises

• Providing supervision or companionship

• Completing light household tasks connected to the person's care

When a caregiver is an employee, the person employing the caregiver may have household-employment reporting responsibilities. However, special employment-tax rules may apply when the caregiver is the employer's:

• Spouse

• Child under age 21

• Parent, unless an exception applies

• Employee who is under age 18 at any time during the year, unless an exception applies

In some of these family relationships, the employer may not owe certain federal employment taxes even though the caregiver's compensation still needs to be reported on Form W-2. The exact treatment depends on the relationship, the type of care provided, and whether an exception applies.

When a family caregiver is not an employee

Not every paid caregiver is an employee. If the caregiver is not an employee, the next question is whether the caregiver is engaged in a trade or business of providing care.

This distinction matters because compensation may still be taxable income even when it is not subject to self-employment tax.

The IRS provides several examples that illustrate the difference.

Example 1: Caring for a disabled spouse

Suppose a taxpayer receives payments from an insurance company to care for a spouse who was permanently disabled in an accident. The taxpayer helps with dressing, bathing, eating, medication, and basic physical therapy. The taxpayer is not a trained nurse or therapist and does not provide caregiving services to anyone else.

According to the IRS, the caregiver generally would not owe self-employment tax on those payments if the facts show that the caregiver is not engaged in the trade or business of providing caregiving services.

The payments still must be reported as income. The IRS example directs the taxpayer to report the full amount as other income on Schedule 1 of Form 1040 or 1040-SR.

Example 2: Caring for grandchildren so their parent can work

Consider a grandparent who receives payments from a state agency to care for their grandchildren so the children's parent can work. The grandparent does not operate a daycare business and does not care for other children.

Under the IRS example, the grandparent generally would not owe self-employment tax because the grandparent is not engaged in the trade or business of providing daycare services.

However, the payments still must be reported as income on the taxpayer's federal return.

Example 3: Operating an adult daycare business

Now consider a taxpayer who operates a sole-proprietor adult daycare business for multiple clients, including the taxpayer's grandmother. A state agency pays the taxpayer to care for the grandmother so she does not have to enter an institution.

In this situation, the payments are connected to an established caregiving business. The taxpayer generally must report the income on Schedule C and calculate self-employment tax on Schedule SE.

A Form 1099 does not settle the question

A caregiver may receive Form 1099-MISC or Form 1099-NEC from an insurance company, government agency, or other payer. The type of form received is important, but it does not always determine the caregiver's final tax treatment.

The facts and circumstances still matter, including:

• Whether the caregiver provides similar services to other people

• Whether the caregiver advertises or operates a caregiving business

• Whether the work is regular, continuous, and intended to produce a profit

• Who controls how and when the services are performed

• Whether the caregiver received a Form W-2, Form 1099-MISC, or Form 1099-NEC

• Whether the payments came through an insurance policy, state program, or family arrangement

Do not ignore a tax form because the payment was connected to caring for a family member. The IRS may also receive a copy, and failing to report the amount correctly can lead to a notice or an adjustment.

Income tax and self-employment tax are different

This is one of the most important points for family caregivers: income can be taxable even when self-employment tax does not apply.

Income tax is based on taxable income. Self-employment tax generally funds Social Security and Medicare for people who work for themselves. A caregiver who is not operating a caregiving trade or business may still need to report the payment as other income, but may not owe self-employment tax on it.

On the other hand, a caregiver who provides services as part of an ongoing business may need to file Schedule C, deduct eligible business expenses, and pay self-employment tax using Schedule SE.

Records family caregivers should keep

Good records can help support the proper tax treatment. Caregivers should retain:

• Copies of Forms W-2, 1099-MISC, and 1099-NEC

• Payment statements from insurance companies or government agencies

• Care agreements or program documents

• A description of the services provided

• Records showing who directed or controlled the work

• Information about any other caregiving clients

• Receipts for potential business expenses, if the caregiver operates a business

• Correspondence explaining the purpose of the payments

It is also helpful to document whether the caregiver provides services only to one family member or offers similar services to the public.

Before filing your tax return

If you were paid to care for a relative, avoid assuming the payment is either automatically tax-free or automatically subject to self-employment tax. Review the entire arrangement before deciding where and how to report it.

Ask these questions:

1. Who paid the caregiver?

2. Who had the right to control the caregiver's work?

3. What tax form was issued?

4. Does the caregiver provide services to anyone else?

5. Is the caregiver operating an ongoing business?

6. Does a special family-employment-tax exception apply?

The answers can change the reporting requirements and the amount of tax due.

We can help you report caregiver payments correctly

Family caregiving arrangements rarely fit into a simple one-size-fits-all category. The payment source, employment relationship, family relationship, and caregiver's other business activities all matter.

If you received caregiver payments or paid a family member for in-home care, Kamish & Associates can review the facts, help determine the appropriate tax treatment, and make sure the payments are reported correctly.

Contact Kamish & Associates before filing so we can help you avoid misclassified income, unexpected self-employment tax, or an IRS notice later.

This article is for general informational purposes only and does not constitute tax, legal, or financial advice. Tax treatment depends on each taxpayer's specific facts and circumstances.