Special Tax Benefits for Childcare Providers

Article Highlights:

• Taxpayer Identification Requirements
• Business Use of the Home Deduction
• Meal Deduction 
• Business-Use Vehicle Deduction 
• Deductible Expenses: Games, Toys, and Field Trips
• Social Security and Medicare Taxes
• Retirement Planning
• Other Applicable Issues 

Childcare providers play an important role in society by looking after and nurturing young children.  Given their substantial obligations, there are several tax breaks available to assist these dedicated professionals.  Understanding these perks can help you improve your financial planning and tax efficiency, whether you work from home or in a separate facility.  This article delves into the many tax benefits accessible to childcare providers, such as taxpayer IDs, business use of the house, meal deductions, vehicle use, and more.

Taxpayer Identification Requirements

To report taxes, all daycare providers must have a taxpayer identity number (TIN).  In general, providers can use their Social Security numbers (SSNs) or file for an Employer Identification Number (EIN).  It is critical because parents who pay for childcare will require this information to collect their child and dependent care tax credits.  To prevent the danger of identity theft, providers should apply for an Employer Identification Number (EIN) rather than utilizing their Social Security Number.

Failure to submit a taxpayer ID when required by parents or the IRS can result in penalties.  As a result, obtaining and keeping a valid EIN is not only required for compliance, but it also helps to preserve your Social Security number.

Business Use of the Home Deduction

The commercial use of the home deduction is one of the unique tax breaks offered to childcare providers who operate their business from home.  Unlike many other firms, childcare providers can claim a business use of home deduction even if the daycare room is not used only for business purposes.  This specific allowance is critical given the nature of the service offered.

To qualify, providers must:

• Provide daycare for children, the elderly, or others who cannot care for themselves.

• \tApply for, receive, or be exempt from state-required licensing, certification, registration, or approval for daycare centers, family or group homes. You do not meet this criteria if your application was denied, your license or other authorization was revoked, or it has expired.

• Consistently use the home for daycare operations.

• Determine the area and time used for daycare.

There are two options for using your house for business purposes.  There are two methods: simplified and regular.   Neither approach can exceed the company's net profit before subtracting business use of the residence.   Here's the information for both:

• To calculate the deductibility of a day care business, multiply the space of the residence used by $5, up to a maximum of 300 square feet.   However, the result must be prorated for a partial year of use.  Thus, the maximum deduction is $1,500, which is typically less than the standard way, which is why this method is rarely employed.

On July 20, Jan began using 420 square feet of her house for eligible business purposes.  Jan continued to use 420 square feet of the house until the end of the year.  The average monthly permitted square footage is 125 square feet, calculated by dividing 300 square feet every month from August to December by the number of months in the year ((5 x 300)/12). Thus, the deduction is $625 (125 x $5).

• \tRegular Method: Calculate the percentage of time a home was used for business by comparing the overall time spent on business to the total time the residence can be utilized for other reasons.  Compare the amount of business hours in a week to the total number of hours in a week, which is 168.  Alternatively, compare the hours of business use for the year to the total number of hours in the year, which is typically 8,736 (plus 24 for leap years).  If only part-time, prorate the amount of hours based on the number of days the residence was open for childcare.

Rene, for example, ran a child daycare service out of her home basement.  Her expenses included $500 for basement painting, $12,400 in rent, and $1,850 in utilities.  Rene calculates the commercial proportion of the basement as follows:

The basement's square footage is 1,600 The square footage of the residence (including the basement) is 3,200. Business percentage = 1,600 / 3,200 = 50%.

Rene utilized the basement for daycare for an average of 12 hours per day, five days per week, for 50 weeks of the year.  During the remaining 12 hours of the day, the family could use the basement.  Rene calculates the proportion of time the basement was used for daycare as shown below.

The number of hours used for daycare is (12 x 5 x 50) = 3,000 Total amount of hours per year = (24 x 365) = 8,760. Direct Expense Percentage: 3,000/8,760 = 34.25%

Rene can deduct 34.25% of all direct basement expenses.  However, because Rene's indirect expenses apply to the entire house, he may only deduct 17.08% of them.  Rene calculates the percentage of their indirect expenses as follows:

Business percentage of the basement: 50%. Daycare takes up 34.25% of the time. Indirect Expense Percentage = 50 x 34.25% = 17.12%.

Rene uses her home for business purposes as follows: 
Painting ($500 x 34.25%) = $171.25; Rent ($12,400 x 17.12%) = $2,122.88. 

Renter's insurance ($1,500 times 17.12%) 256.80 Utilities ($1,850 x 17.12%): 316.72 Business Use of Home Deduction: $2,867.65.

If Rene had bought her property, rent would have been replaced by mortgage interest, taxes, insurance, and depreciation, with the remaining mortgage interest and taxes deductible as an itemized deduction, if not the standard deduction.

Meal Deduction 

Providers can deduct the cost of meals provided to children in their care as a business expense.  This deduction highlights the importance of nutrition in childcare.  There are two ways to claim this deduction:

• The Actual Cost Method requires keeping accurate records and receipts for all meal-related purchases.

• Simplified Meal Deduction: Provides a consistent amount per meal without requiring documented food purchases, eliminating administrative hassles.  Rates vary, and providers in Alaska, Hawaii, and other U.S. possessions may claim more owing to differences in cost of living.

However, it's important to note that meals for the provider's family are not included in these deductions.

Business-Use Vehicle Deduction 

Childcare workers frequently utilize their personal automobiles for professional purposes, such as carrying children on trips, purchasing supplies, or attending instructional sessions.  There are two ways to claim deductions for car usage:

• Standard Mileage Rate: Calculates the cost per mile for business reasons.  The fee is revised annually; for 2025, it is 70¢ per mile, up from 67¢ in 2024.

• The Actual Expense Method involves assessing actual costs, including gas, maintenance, and insurance, and factoring in the amount used for business.

Regardless matter the approach used, keeping a complete journal of visits, including dates, distance, and business purposes, is essential.

Deductible Expenses: Games, Toys, and Field Trips

Both games and toys used to enhance the daycare experience are deductible because they are considered necessities.  Similarly, field trips have educational and developmental value, thus expenses associated with such activities, such as entry fees and transportation costs, can be deducted.  Paper plates, cups, utensils, soap, napkins, tissue, and other items can also be included.  What about prorated Internet and TV service?  (to keep children entertained)

Social Security and Medicare Taxes

Self-employed childcare providers must pay self-employment taxes to meet their Social Security and Medicare obligations.  The rates include 12.4% Social Security and 2.9% Medicare.

• Half of self-employment taxes can be deducted from gross income, reducing financial burden.  It's also worth noting that contributing to these funds allows a self-employed individual to construct an earnings record that will be utilized to calculate their Social Security payments when they retire.

• Providers earning above specified criteria ($200,000 single, $250,000 married filing jointly) may be subject to an additional 0.9% Medicare levy.

Retirement Planning

Planning for retirement is critical for self-employed persons, such as childcare providers.  Contributions to simplified employee pension (SEP) plans, solo 401(k)s, or classic IRAs can be deducted, lowering taxable income while assuring long-term security.  These plans are taxable upon retirement, whereas Roth IRA distributions are tax-free, but Roth plan contributions are not deductible.

• Traditional IRA - Contribute up to $7,000 ($8,000 if over 50).

• Roth IRAs have the same contribution limits as Traditional IRAs, but they are not tax-deductible.

The SEP IRA allows donations of up to 25% of net earnings.

• Solo 401(k) allows for larger contribution limits and significant tax savings.

Other Applicable Issues 

In addition to the basic deductions mentioned, there are several other areas to consider.

• Advertising costs for marketing services are entirely deductible.

• Continuing Education: Attending childcare-related seminars or courses can lower taxable income.

• Insurance premiums for business-related risks and liabilities are deductible.

• Licensing fees for compliance and operational validity can be deducted annually.

• If a daycare business hires employees, the owner must collect and pay employment taxes and complete related documents.

Understanding and utilizing these specific tax benefits can considerably lower the financial burden and increase the profitability of a daycare business.  Navigating the complexities of tax laws can be difficult.  Please contact our office if you have any queries or need assistance optimizing your tax benefits.

.