A nanny can be an important part of a family’s life, providing reliable care for the children and helping keep up with the many other facets of a busy life. Employing a nanny can also provide some tax relief depending on the situation.
A tax deduction is available for child care expenses. The deduction is the least of three amounts:
- the actual amount spent on child care;
- $7,000 for each child age six or less, plus $4,000 per child for those between ages seven and sixteen at some point throughout the year, plus $10,000 for a child who is eligible for the disability tax credit regardless of that child’s age; and
- two-thirds of the lower-income spouse’s earned income.
The objective of the deduction is to provide some income tax relief to working parents who incur eligible child care expenses to allow them to earn an income.
The type of expenses that qualify as child care expenses include items such as: salaries for caregivers (including the employer’s portion of CPP, EI and WCB); advertising/placement fees to locate a nanny; daycare centres; a portion of the fee paid to educational institutions for child care expenses; day camps where the primary goal is care for children; or boarding schools/camps where lodging is involved. There are some limitations in terms of the amount of the expense that is eligible, particularly with respect to boarding schools and camps.
Non-qualifying expenses include the education component of institutional fees, medical/hospital care, clothing or transportation.
It is interesting to note that it is the total of the actual expenses incurred that is used in the formula, compared against a single number that is based cumulatively on the number and age of the children. This is important as sometimes care for one of the children costs more depending on needs and circumstances, or collectively care for the children as a group costs a certain amount which cannot be allocated reasonably among them. This would mean that a salary of $20,000 paid to a nanny to care for twin four-year-olds and an eight-year-old would not have to be allocated to the children individually, provided the total is within the formula amount.
There is a limitation with respect to who provides the child care. Expenses paid to the child’s mother or father, a spouse, or common-law partner are not eligible for the deduction. As well, expenses paid to a related person who is under age 18 are not deductible. The term related person would typically include an older child of the parent or common-law partner. However, a niece or nephew is not considered to be related, so child care amounts paid in this case could be qualified expenditures. Amounts paid to grandparents would also be eligible.
The documentation supporting the claim does not have to be filed with the individual’s tax return but should be retained in case the Canada Revenue Agency requests a copy. Organizations that provide child care services will generally issue a receipt that details the child’s name and the amount of expenses. When individuals provide child care services, the receipt must also include the social insurance number of the individual.
The third criterion in the deduction formula generally limits the deduction to two-thirds of the lower-earning spouse’s “earned income”. This term is specifically defined within the Income Tax Act for the purposes of the child care deduction and incorporates income amounts that reflect the original purpose of this deduction, such as: employment income; tips; net self-employment income; the taxable portion of scholarships; CPP/QPP disability benefits; plus a few other items that would be taxable to the individual. It is important to note that the definition differs from “earned income” for RRSP purposes. Where the lower-income parent is attending school, is unable to care for the children because of a physical or mental infirmity, or is in prison, the higher income parent may be eligible to claim the deduction.
Child care expenses can represent a large portion of a family’s monthly expenditures, and the tax rules provide some relief where both parents are working or under other limited circumstances.
E.O. & E.
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Contributors to this edition:
James W. Kraft, cpa, ca, mtax, tep, cfp, clu, ch.f.c.
Deborah Kraft, mtax, tep, cfp, clu, ch.f.c.