The Benefits for Childcare Providers Who Obtain an EIN
Childcare centers often operate as independent contractors, meaning the operators may file their tax returns with their own Social Security Number (SSN). However, they should use obtain a business Tax ID (EIN), even when it isn’t legally required. These businesses often operate within a private home, especially when they’re first getting started. The National Association for Family Child Care (NAFCC) reports that over one million childcare providers do so instead of using a separate place of business. This post discusses six of the most important benefits of using an EIN for childcare providers.
1. Identity Theft Protection
Identity theft is preventable and a growing problem around the world. The Identity Theft Resource Center reports that over 400 million people were victims of data breaches in 2022. In addition, the Bureau of Justice Statistics reports that women are victims of identity theft more often than men, which is particularly relevant for childcare.
The IRS offers a tax credit for childcare, so parents using these services will want to claim the credit on their tax returns. However, obtaining that benefit requires the tax preparer to know the childcare service’s TIN, meaning the service will likely provide its TIN to all of its customers. This practice is problematic if the childcare service is using the operator’s own SSN as its TIN. An SSN is a highly valuable piece of Personally Identifiable Information (PII) that can lead an identity thief to virtually all other types of PII, including bank account and credit card numbers. Using an EIN instead of an SSN thus reduces the risk of identity theft, especially for childcare providers.
2. Future Expansion
While childcare services typically start out small, they can grow quickly once they establish a loyal clientele willing to entrust their children to them. When this occurs, the company will need to hire employees, which requires it to use an EIN. A growing childcare center often needs to add staff because many states specify a maximum number of children for each daycare worker.
If a sole proprietor has been using an SSN to this point, they will need to obtain an EIN before they can take on more children. It’s therefore best for a childcare center to obtain an EIN in advance, so it can avoid delays in expanding.
3. Electronic Payment Collection
A childcare service often charges parents a recurring fee for a fixed amount, typically weekly or monthly. Like other businesses with this type of payment plan, it’s preferable to set up automatic monthly payments to avoid the work of manually processing them. In addition, most customers of daycare centers are busy parents juggling their parenting responsibilities with full-time jobs. As a result, electronic payments are more convenient for everyone.
A common solution in these cases is a payment app like PayPal or Venmo. However, these platforms require customers to provide a TIN in the event they need to file a 1099-K with the IRS for that business. The IRS requires payment platforms to report customers that exceed a minimum threshold in payments for each year. This threshold amount can change each year, but it’s currently low enough that payment platforms will need to file a 1099-K for any viable business. For example, the minimum threshold will be $5,000 for 2024, $2,500 for 2025, and $600 per year thereafter.
Some states also require payment platforms to report customers that exceed certain thresholds, typically in terms of total amounts or number of transactions for each year. Childcare services should provide these platforms with an EIN to avoid the risk of identity theft, as discussed above. In addition, an EIN helps facilitate the reporting process by making it clear that the childcare service is a business rather than an individual customer of the payment platform.
4. Opening a Business Bank Account
Childcare providers often use the same bank account for business and personal finances, especially when they start their business. However, it’s better to separate these transactions as soon as possible to simplify accounting and minimize the risk of an IRS audit due to misrepresenting income. An EIN is highly useful for this purpose, as it allows the childcare service to have its own bank account.
Financial institutions, especially banks, often require you to have an EIN when opening a business account. You may be able to use your own SSN to do so, but this largely defeats the purpose of using a separate account. An IRS auditor who sees two accounts registered under the same SSN is likely to suspect that the account holder is co-mingling finances, even when they aren’t. An EIN helps maintain the separation needed to minimize financial risk when running a business, especially for sole proprietors.
5. Legal Protection
An EIN’s ability to separate a childcare business from its owner also provides legal protection, especially when the owner is the only member of the business. A sole proprietorship doesn’t provide the owner with any particular protection under US law, meaning that the owner’s personal finances could be at risk if someone files a lawsuit against their business.
The most common solution to this problem is to register the childcare business as a Limited Liability Corporation (LLC) rather than a sole proprietorship. An LLC provides greater protection from legal liabilities, which is especially important for childcare services. A single-owner LLC is legally required to use an EIN.
6. Improved Credibility
Businesses like childcare services are highly dependent on their reputation, especially those operated by one person. Persuading parents to trust their children with a solo caretaker requires that person to have a great deal of credibility, which an EIN can help to establish. An EIN makes a business appear more professional, whereas using an SSN can give prospective clients the impression that the owner views their business as a hobby.
Job Outlook
The employment of childcare workers in the United States is expected to decline by one percent between 2023 and 2033, according to the Bureau of Labor Statistics (BLS). Despite the low growth rate, the BLS also expects an average of about 162,500 openings in this field each year during the next decade. This high turnover rate is largely due to the fact that childcare workers include many part-time workers who often work irregular hours. These openings are thus the result of replacing workers transferring into other occupations or exiting the labor force entirely.
SSN vs. EIN
The Internal Revenue Service (IRS) requires all entities that file tax returns to identify themselves via some type of Tax Identification Number (TIN), which is a unique, nine-digit number. Several types of TINs exist, including EINs and SSNs. The primary difference between TIN types is the type of entity they represent. For example, EINs represent a business, while an SSN represents an individual.
Since all TINs are nine-digit numbers, the IRS formats them differently to identify which type of TIN it is. For example, an EIN is formatted as XX-XXXXXXX, while an SSN is formatted as XXX-XX-XXXX.
Legal Requirements
Since childcare centers are often operated as sole proprietorships, the proprietor may file tax returns as an individual by using their SSN. However, they may need to file with an EIN under certain circumstances. For example, any business with employees must use an EIN, regardless of how it’s structured. Any business that’s structured as a corporation or partnership or LLC must also use an EIN, even if it has no employees.
Any business that withholds taxes on income paid to a non-resident alien also needs an EIN if that income wasn’t wages. This situation frequently occurs in childcare, where workers are often non-US citizens. In addition, a childcare business that offers a Keogh plan needs an EIN to declare its contributions to that plan.
Summary
Childcare services may not be legally required to use an EIN if they’re operated as a sole proprietorship. However, these business owners should still obtain an EIN when they first get started, even if they don’t need one right away. An EIN helps establish a childcare center as a separate entity from the owner, providing many advantages. These benefits include legal, financial, and personal protection, along with the ability to obtain credit and build the childcare center’s reputation. In addition, an EIN can reduce a childcare service’s operational overhead and facilitate its future expansion.