Homecare for relative

[LouD]

Hoping to find an angle to help a new client, and thought I would see if anyone had run into this situation before.

New client comes to me with her self-prepared 2008 return and a letter from the IRS asking for more money. 24-year old client helps take care of her 21-year old physically and mentally disabled sister at the home they both reside with their father. Disabled sister receives $15k per month in social security and untaxable annuity payments from a medical malpractce lawsuit. Father pays my client to help take care of the sister with the annuity proceeds and my client treated those payments in 2008 as "Other Income" as opposed to Schedule C - so the IRS would like to add SE tax to the $7,500 in payments in 2008.

This tax issue will be even bigger in 2009, as client received about $30k under the same arrangement which should continue in future years.

Looking from the viewpoint of the IRS, I can see why they would want to tax these payments with SE tax - the annuity income is tax-free, so the IRS would be missing out on the payroll tax when payments are made to my client if she treats the income as "Other Income", essentially taking the same route as the S-Corp shareholders that don't take a reasonable salary.

Other than having my client set up as an employee and having the sister pay 1/2 of the SE tax (which wouldn't help us for 2008 & 2009), is there any other way or arguement to avoid the SE tax?

Thanks for any help and suggestions!

[jainen]

>>is there any other way or arguement to avoid the SE tax?<<

Yes, you can argue that the client is not in a trade or business but is simply helping a relative. Address the level of compensation, presumably including room & board, which suggests a profit motive unless there is some other means of support. There is precedent for this position in the tax court

Alternatively you could argue that the client is a household employee subject to employer-paid FICA rather than SE tax. Either way, be sure to follow instructions exactly in replying to the IRS letter. I recommend you attach documentation of your position, as well as an explanation.

[LouD]

>>is there any other way or arguement to avoid the SE tax?<<

Yes, you can argue that the client is not in a trade or business but is simply helping a relative. Address the level of compensation, presumably including room & board, which suggests a profit motive unless there is some other means of support. There is precedent for this position in the tax court

Alternatively you could argue that the client is a household employee subject to employer-paid FICA rather than SE tax. Either way, be sure to follow instructions exactly in replying to the IRS letter. I recommend you attach documentation of your position, as well as an explanation.

Thanks for the help and guidance Jainen - much appreciated.

[BulldogTom]

This might be a little bit of a stretch, but there was a court case or IRS ruling a while back that dealt with grandparents who were paid by the county to care for their grandchildren so the parent could work. There was no business motive because they were caring for relatives, therefore no SE tax. I don't have the information at my fingertips, but I have it at the office. You could look for that case or ruling and see if you could make that work for you.

Tom

Lodi, CA