Information about the taxability and deductibility
of surrogacy fees is often hard to find because
there are far fewer surrogacies than with
conventional births. Surrogacy is a legal
arrangement in which a surrogate mother, new parents
and (often) a surrogacy agency enter into a binding
contract. In the event of a breach of that contract,
any party can be held to the terms of the agreement.
Tax Treatment for the Surrogate –
Some resources attempt to classify the surrogacy fee
as a gift; however, a U.S. Supreme Court decision
(Commissioner vs. LoBue, Philip (1956, S Ct)) stated
that, for tax purposes, gifts must be made out of
detached or disinterested generosity. Any payment
that parents make to a surrogate mother cannot
reasonably be considered detached or disinterested,
so surrogate fees are not gifts.
On the other hand, many surrogacy agencies advise
their clients that surrogacy payments as being
non-taxable since they are for pain and suffering
and thus are exempt under Sec 104 of the Internal
Revenue Code (IRC). This section is about
“compensation for injury or sickness”; however, the
term “pain and suffering” does not appear anywhere
in that section. Surrogacy does not meet the
definition of an excludable physical injury under
IRC Sec 104 such as an injury associated with a car
accident, bungled surgery or other accident. Thus
surrogacy fees do not fall under the compensation
exclusion for injury or sickness.
IRC Sec 61 states, “Except as otherwise
provided, gross income means all income from
whatever source derived.” There is no
exception in the code for surrogacy fees, so such
fees are considered taxable income for the surrogate
mother. To complicate matters, the surrogate mother
is providing a personal service and thus may be
subject to the self-employment (Social Security and
Medicare) taxes in addition to income tax if such a
fee is received in the course of business. The
tax rate (15.3%) is significant, and so the IRS in
examining a return for a tax year in which a
surrogacy fee was received could raise the issue.
To be subject to Social Security taxes, the
surrogacy arrangement would have to rise to the
level of a trade or business. The determination of
whether that is the case is dependent on the facts
and circumstances of the individual surrogacy. For
instance, if a surrogate has entered into such an
arrangement previously or intends to do so again,
the fee will likely be considered self-employment
income. However, if the surrogacy is a one-time
activity, an argument could be made that this act is
not a business—in which case the surrogacy fee would
not be subject to Social Security taxes.
If the fee is considered self-employment income, it
may be offset with benefits that are available to
any self-employed taxpayer, including the ability to
deduct health insurance above the line rather than
as an itemized deduction and the ability to make
deductible contributions to a self-employed
retirement plan or IRA. Although there are not many
deductible business expenses in such a situation,
the legal or other costs associated with drafting
and executing the surrogacy contract are deductible.
A self-employment surrogacy activity would fall into
the category of a specified service business for the
purposes of the new, self-employed and pass-through
business deduction (up to 20% of net profit)
that will be available in 2018 through 2025. Thus,
provided that the surrogate mother’s return has
taxable income that does not exceed $157,500 (or
$315,000 if she is married and files a joint return
with her spouse), she would be eligible for the
new IRC Sec 199A pass-through deduction, which is
equal to 20% of the net self-employment income.
However, this deduction phases out at taxable
incomes between $157,500 and $207,500 (or $315,000
and $415,000 if filing jointly). The income from
self-employment surrogacy can be used to determine
the earned income tax credit if a surrogate mother
is otherwise qualified.
Unfortunately, tax novices on the Internet are
creating their own interpretations of the tax code,
and many of them are attempting to justify their
preferences instead of instead of describing the
As a result, many - dare we say, most - surrogate
mothers are not reporting their surrogacy income.
The IRS is not catching up with them because neither
the parents nor the agencies are issuing 1099-MISC
forms to surrogate mothers. The parents are under no
obligation to issue a 1099-MISC because, for them,
the payment is not related to a business. The
agency, on the other hand, is a business, so if the
surrogacy fee passes through it, the agency is
obligated to issue a 1099-MISC.
Tax Treatment for the Parents
Surrogate mothers’ expenses are not specifically
addressed in the IRC or in other regulations. Under
current tax law, the only place that a surrogate fee
could be deducted is as a medical expense. However,
consider the following:
deductions are allowed only for the medical care
of the taxpayer and his or her spouse and
dependents (IRC Sec 213(a)).
must be for the diagnosis, cure, mitigation,
treatment, or prevention of disease, or for the
purpose of affecting any structure or function
of the body (IRC Sec 213(a)(1)(A)).
surrogate mother is, by definition, neither the
taxpayer nor the taxpayer’s spouse, and she is
typically not a dependent, either. An unborn child
is also not a dependent (Cassman v. United
States, 31 Fed. Cl. 121 (1994)). Thus, medical
expenses paid to a surrogate mother and her unborn
child do not qualify for a medical deduction.
This fee also cannot be construed as a treatment for
a female taxpayer’s inability to conceive.
Thus, the new parents cannot deduct the surrogacy
fee or any agency fees, legal fees, and medical
expenses for the surrogate mother and unborn fetus.