Lands on Schedule 1 — Line 8s — where the nontaxable amount comes back out

If the payments do not come through a Medicaid waiver programme, this article is not for you. Private pay from a family, or agency wages that are not waiver payments, are ordinary income and nothing below applies. This is narrow, and the narrowness is the point.

Most of what is written about caring for a family member starts from the assumption that the money is income and works out what to do with it.

For a large group of carers that assumption is wrong at the first step. And the correction has a sting in it that is almost never mentioned.

The short answer
What the rule is Notice 2014-7 — difficulty of care payments under §131
Which payments State Medicaid §1915(c) home and community-based waiver
The condition most often missed You must live in the same home
Self-employment tax on them None. Not self-employment income
On a W-2 Box 12, code II — since 28 April 2025
On a 1099 Form 1040 line 1d, then Schedule 1 line 8s
Earlier years Form 1040-X, while the refund window is open
The sting Excluding it can remove the earned income behind a credit
The choice Include all, but not part, for EIC and ACTC

What the notice does

Notice 2014-7 treats qualifying payments under a state Medicaid Home and Community-Based Services waiver — the programmes described in section 1915(c) of the Social Security Act — as difficulty of care payments excludable from gross income under section 131.

Not deductible. Not taxed at a lower rate. Not income.

And the IRS is explicit that this carries through to self-employment tax:

"the amounts are nontaxable and excludable from income, the payments are not self-employment income and are not subject to self-employment tax"

For a sole proprietor that means reporting the full amount as income on Schedule C line 1 and then reporting the nontaxable amount as an expense — the figure arrives and then leaves, and no self-employment tax attaches on the way through.

The condition that decides it

This is where most people who think they qualify do not:

"the place where the provider resides and regularly performs the routines of the provider's private life, such as shared meals and holidays with family"

The care has to happen in your home, and that phrase defines what your home means. Shared meals. Holidays. The ordinary routines of a life.

A carer who drives to the recipient's house each day is working in someone else's home, and the exclusion does not reach them. So is a carer who keeps a separate place and returns to it at weekends — maintaining that other residence is the fact that breaks it.

Worth checking before anything elseEverything below depends on this one condition. If you do not live with the person you care for, the payments are ordinary income and the rest of this page is not your situation.

Where the numbers go

How it arrives What to do
W-2, box 12 code II Nontaxable amount on Schedule 1, line 8s
1099-MISC or 1099-NEC Form 1040 line 1d, then Schedule 1 line 8s
Neither, and you are self-employed Schedule C line 1 in full, nontaxable amount as an expense

The W-2 route is newer than most guidance online: box 12 code II came in with guidance updated on 28 April 2025. An older article will not mention it.

And if you reported these as taxable in an earlier year:

"You may file a Form 1040-X, Amended U.S. Individual Income Tax Return, if you received payments described in the notice in an earlier year and the time for claiming a credit or refund has not expired."

The window is not open forever, which makes this worth looking at now rather than next filing season.

The part that is almost never mentioned

Here is the trap, and it catches exactly the households the rule was meant to help.

The earned income credit and the additional child tax credit are computed on earned income. Exclude the waiver payments and, for many carers, the earned income goes with them — because those payments were the earned income. The exclusion saves tax on money that was not going to be taxed much anyway, and removes a credit that could be worth far more.

The IRS provides a way out, and it is a choice rather than an automatic result:

"choose to include all, but not part, of these payments in earned income for determining the EIC or the ACTC, if these payments are otherwise earned income (wages or income from self-employment)"

All, but not part. You cannot include just enough to maximise the credit. It is the whole amount or none of it.

Which way is better is arithmetic, and it genuinely goes both ways:

Excluding the payments Including them for the credit
No income tax on them They count as earned income
No self-employment tax The credit may return, and may exceed the tax
Earned income may fall to zero Must be all of them, not a chosen amount
Credits computed on earned income shrink

There is no rule of thumb here worth printing, because the answer turns on the size of the payments, the rest of the household's income, and how many children are on the return. It is a calculation to run both ways before filing, with a qualified tax professional.

The other question, kept separate

Whether you are somebody's household employee or self-employed is a different matter entirely, decided by who controls how the work is done — and the IRS household work list names caretakers, health aides and private nurses. That question governs who pays social security and Medicare, and it is worked through here for the same household-facing situation.

It does not change the exclusion. A qualifying payment is excludable whether it reaches you as wages or as self-employment income; what changes is which line it passes through on the way out.

What to keep

The exclusion is a claim you make about your own circumstances, and it rests on facts nobody else records:

  • The waiver programme the payments come under, named.
  • That you and the recipient share the home — the same address on both sides, and for the same period.
  • The care plan, which is what places the care in your home.
  • Every form received, W-2 or 1099, with the box or code it arrived in.
  • The credit calculation both ways, for the year you decide.

The last one is not paperwork for the IRS. It is so that next year you can see what you decided and why, instead of deciding it again from nothing.

Common questions

Which payments are excludable?
Payments under a state Medicaid Home and Community-Based Services waiver programme described in section 1915(c) of the Social Security Act. Notice 2014-7 treats them as difficulty of care payments excludable from gross income under section 131.
Do I have to live with the person I care for?
Yes, and this is the condition most often missed. The care must be given in the provider's own home, meaning "the place where the provider resides and regularly performs the routines of the provider's private life, such as shared meals and holidays with family." Caring for someone in their home while you live elsewhere does not qualify.
What if I keep a separate place for weekends?
Then you are working in the recipient's home rather than your own, and the exclusion does not apply. Maintaining a separate residence is the fact that breaks it.
The payments came on a W-2. Where do they go?
Since guidance updated on 28 April 2025, nontaxable amounts may be shown in Form W-2 box 12 with code II. The nontaxable amount is then reported on Schedule 1, line 8s, which takes it back out of income.
They came on a 1099 instead. Now what?
The IRS answers this directly: "enter on Form 1040 Line-1d your Medicaid Waiver Payments reported on Form 1099-MISC... or Form 1099-NEC, Nonemployee Compensation, and enter your nontaxable Medicaid Waiver Payments on Schedule 1 Line-8s."
I am self-employed. Do I still owe self-employment tax on them?
No. The IRS: "the amounts are nontaxable and excludable from income, the payments are not self-employment income and are not subject to self-employment tax." A sole proprietor reports the full amount as income on Schedule C line 1 and then reports the nontaxable amount as an expense.
I paid tax on these in earlier years. Can I get it back?
Possibly. "You may file a Form 1040-X, Amended U.S. Individual Income Tax Return, if you received payments described in the notice in an earlier year and the time for claiming a credit or refund has not expired."
Can excluding the payments leave me worse off?
Yes, and this is the part almost nobody is told. Credits like the earned income credit and the additional child tax credit are computed on earned income. Exclude the payments and that earned income may disappear, taking the credit with it.
Is there anything I can do about that?
There is a choice. You "may choose to include all, but not part, of these payments in earned income for determining the EIC or the ACTC, if these payments are otherwise earned income (wages or income from self-employment)." All or none — you cannot include the useful half.
So which is better?
It depends entirely on the numbers, and it can go either way. The exclusion saves tax on the payments; including them can unlock a credit worth more than that tax. It is arithmetic specific to your return and worth doing both ways with a qualified tax professional before filing.
Am I an employee or self-employed in the first place?
A separate question, and it has its own test. The IRS household work list names caretakers, health aides and private nurses, and whether you are somebody's household employee turns on who controls how the work is done.

This article is for educational purposes only and does not constitute tax, legal, or financial advice. Consult a qualified tax professional about your situation.

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