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What is clear here is that the caretaker is not a foster care provider. Section 131 clearly states that the foster care payments must be made under a state-approved foster care program. Providing a caretaker for an elderly person does not fall under the section of this code. Here is a link to the code for your reference. http://www.taxalmanac.org/index.php/Internal_Revenue_Code:Sec._131._Certain_foster_care_payments
I think there is some exposure for the ward in two areas.
The first would be the payment of the caretaker. If the caretaker stopped receiving a salary (I'm assuming she had taxes taken out and received a W-2), and there was ever an IRS examination into this, the ward could be held liable for 100% of the employer portion of payroll taxes plus section 3509 penalties relating to the employee's portion of payroll taxes. These could amount to as much as 40% for FICA taxes and 3% for federal withholding. Note that if a 1099 was filed these penalties would be reduced.
I also want to point out that if the caretaker was being paid as a 1099 and the IRS ever examined worker status, typically the IRS takes the status that in-home caretakers are household employees-regardless if there is a contract that states otherwise.
The second area of exposure would be in the rental income received from the caretaker. First, please ensure that the $250/month rent is being reported on the ward's 1040. Second, ensure that no rental loss was taken as given the cirumstances with the below market value rent that would not correct.
The ward would still be entitled to any other tax benefits related to the sale of the home, such as deducting her property tax on Schedule A.
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