My niece's husband works for stepdad as 1099 and hasn't paid taxes last year (2006). What are ramifications?

Question

My niece's (19) husband (19) works for his stepdad as 1099 and was paid cash all last year. He never paid any taxes and he made roughly 20K. They have a new baby (reason for marriage). I am concerned that they haven't paid anything. They said that they spoke to a tax preparer and he said that this isn't a problem. Is this true? I thought that you had to estimate and pay taxes quarterly. These are know-it-all teenagers and I'm afraid that they are going to learn another hard lesson.

The stepdad owns a salvage yard (Junk yard) and his step son just works as a parts person. He said that his stepdad does file with the IRS and is filing a 1099MISC. He also said that he assured him that this was legal (I don't see how). He said he does all of his employees this way. I assume it is to avoid payroll taxes and soc security.

Answer 1

They should be paying taxes... but not to worry, since they have until 15 April to file in the U.S.

Answer 2

You need to get a new tax preparer. It can develop into a huge problem.

If I understand you correctly, the husband (19) was paid cash (under the table?) and no deductions were made?

That means that the husband owes not just income tax but social security tax, as well (7.65% of all amounts paid). If they're filing a joint return and this is the only income, you're going to end up owing but not very much. You sound like you qualify for the child tax credit, the additional child tax credit, earned income credit, and possibly a child and dependant care credit (if you used a daycare).

Some of these credits are refundable, which means you get back more than you would have ever paid in, and that means that some or all of your 7.65% will be covered.

(There is also a problem for the guys stepdad. Is the husband(19) a true 1099 or is he an employee? You don't get to just pick one and go with it. There are criteria the stepdad has to meet or he could also be penalized for trying to evade payroll taxes. Give us some more information and we can help you through this so no one gets stabbed in the back by their own government. Tell us what he does for his stepdad and what the stepdad's business is. Tell us whether or not the stepdad actually issues a 1099 to him or is it truly undocumented work?)

Answer 3

If his stepdad gives him a 1099, it's been filed with the IRS, so they'll know about it.

Yes, he should have filed quarterly. Since he didn't, he'll have a big tax bill when he files, and will have interest and probably penalties added. He's not going to be jailed over it or anything.

Even if he didn't make enough to owe income taxes by the time he takes the deduction and credit for the baby, he'll still owe self-employment tax of 15.3%.

If he is eligible for an Earned Income Credit, that may take care of some or all of the taxes he owes, so he might actually come out OK. If he's not going to owe anything, he won't have to pay penalties, and would be OK not filing quarterly estimates.

Answer 4

The only way it would be no problem would be if they filed a tax return for the prior year and did not have any tax liability. This is highly unlikely but if true they can pay their tax by April 15th and not have a penalty for not having paid quarterly. I hope the tax preparer had them put away enough to pay the taxes due. It is possible that they might not owe much income tax but I know they will have to pay the self-employment tax of 15.3% on the net income paid to him. That would be over $3,000 on $20,000 of income.
I sorry they received such bad advice from a tax preparer, they should have checked with someone like a CPA who should know what they are doing.

Answer 5

I don't know if it's true that they spoke to a tax preparer but if they did they got some bum advice.

Yes, you have to pay estimated taxes if you're not subject to withholding. If your estimates don't satisfy certain requirements in comparison to the total tax bill then there is a penalty.

I know you're thinking that they're not going to pay ANY taxes at all. They'll certainly owe some and may or may not get caught. I think it depends largely on how the employer treats the expense on HIS taxes and whether he ever gets audited and has to document the expense.

You're nice to be worried but you're right, they're about ready to learn another hard lesson. The problem is they'll probably blame the step dad or chalk it up to bad luck rather than take responsibility.

Answer 6

Honestly, I doubt it will be a problem. Have them deep clean their house and pull together any reciepts they can find. Anything from oil changes to meals could be a tax deduction. If they ate at KFC on his lunch break, part of that will be credited towards their income. Married filing jointly with a baby will probaby already get them low enough. I think the Earned Income Credit bar is set somewhere around 15K, so if the married credit and child credit bring that down and they can find receipts that would be tax deductions for his business (as anyone 1099ed is technically a small business), then they may actually get a return this year. My husband is a construction sub-contractor. We haven't paid anything in the five years we've been together, and we get between 1000 and 3000 back every year (varies due to number of receipts saved). They will probably be fine, but if they want to continue this job, they should ask their tax preparer what receipts they need to start saving now to be ready for the next year... ♥

Answer 7

Preparer is probably right. You have to pay quarterly payments when you are going to owe more than $1,000. The reason why they will not be a problem is they will receive a earned income credit and child tax credit, which covers any tax owed. They probably even have a refund coming.
I just hope he kept records of any expenses he had to help lower any tax owed.

Answer 8

"Hypothetically speaking"......if he was paid in cash and the stepdad never claims the deduction for the money paid to his stepson (and did not report it on a 1099-MISC for nonemployee compensation), then the IRS will not know that he received the money.

Legally speaking, if he received income and did not have any taxes withheld, then he should have paid estimated tax payments himself. He can pay what he owes when he files his tax return, however, he is supposed to pay in at least the lesser of 100% of his prior year tax liability or 90% of his current year tax liability either through withholding or through estimated tax payments (with the last payment being made by January 15, 2007). If he had no tax liability last year, then he is fine. If he had a tax liability last year, then he will be subject to penalties for underpayment of estimated taxes.

Being a married couple with a new baby, they can claim the standard deduction for married filing joint of $10,300 and they will get personal exemptions for 3 people at $3,300 each, which totals to $20,200. If he did not earn more than that, then his taxable income will be zero. However, he will have to pay self-employment tax (if he is being treated as a contractor). Assuming that he earned exactly $20,000, then his self employment tax would be $2,825.91 (15.3% tax on net self employment income less the deduction for half of self employment taxes).

Normally, they do include self-employment tax in calculating the penalty for underpayment of estimated tax, but assuming that this is the first year he ever had to file, then he gets a break since his prior year tax liability would be zero and that would be what he would have been required to pay for the year.

They would qualify for the child tax credit of $1,000, however the child tax credit is taken out of regular tax liability BEFORE self employment tax is added in. And with only one child, the child tax credit is not a refundable credit, which means it cannot reduce their tax liability to zero. Therefore, they would not get any of the child tax credit, and he would still need to pay the self-employment tax.

With a young family to support and owing almost $3,000 in self-employment tax, it might be a bit difficult for him to come up with $3,000 in one pop. He might want to start saving now. If he still can't come up with the $3,000 by April 15, the best thing to do is to file anyway and pay as much in as possible. It is better to pay late and have to pay interest and late payment penalties (the IRS would also accept payments if they send in an Offer of Compromise) than to not file and get hit with late filing penalties in addition to the late payment penalty and interest.

Based on the information you have provided, and assuming that the tax preparer received the same information, the advice the tax preparer gave them is accurate.