A Dependent Care Flexible Spending Account Is a Tax-Preferential Way to Pay for Child and Adult Day Care Expenses

Many federal employees who have young children and/or dependent adults incur child and adult care expenses to care for these children and/or adults while these employees and their spouses work. Child and adult care expenses can be expensive, and one of the tax preferential ways to pay for these expenses is through a dependent care flexible spending account (DC FSA), which this column discusses.   

A DC FSA allows an employee to be reimbursed for out-of-pocket dependent care expenses. Employees who work for an Executive Branch agency or an agency that has adopted the Federal Flexible Benefits Plan ("FedFlex") can elect to participate in the Federal flexible spending account program, called the FSAFEDS program which offers among its flexible spending accounts a dependent care FSA, from now on called the “DCFSA."

The money contributed to the DCFSA is set aside before Federal and state income taxes, and Social Security (FICA) and Medicare Part A (hospital insurance) payroll taxes are deducted, resulting in overall tax savings ranging from 20 to 50 percent. The average tax savings for an employee earning $50,000 who contributes $2,000 to the DCFSA is approximately $600. That means the employee gets $2,000 worth of dependent care purchasing power plus saving about $600 in overall taxes. 

The DCFSA is a separate account and is available to reimburse employees for the cost of qualifying dependent care expenses of a tax dependent. A maximum of $5,000 can be contributed to a DCFSA.

The DCFSA allows employees to be reimbursed on a before-taxed basis for child or adult dependent care expenses. An adult (includes a parent, a grandparent, or a disabled adult child) may qualify as the employee’s dependent if the employee is providing more than half of that adult’s annual financial support.

To own and to use the DCFSA, the employee (or the employee’s spouse, if married) must have earned income or self-employment income. Under Internal Revenue Code (IRC) Section 129, the maximum that can be deducted from an employee’s gross salary to the DCFSA is limited to:

• $5,000 for a single individual or a married individual filing taxes jointly with a spouse
• $2,500 for a married individual filing taxes separately with a spouse

A qualifying tax dependent includes: (1) the employee’s dependent child who is younger than age 13; or (2) the employee’s adult dependent of any age, including parents and parents-in-law or a spouse who is incapable of caring for himself or herself. The Internal Revenue Code has rules with respect to when an individual may be claimed as a tax dependent. Information on tax dependents may be obtained in IRS Publication 17 (Your Federal Income Tax for Individuals), downloadable from the IRS Web site (www.irs.gov). Note that under the Tax Cuts and Jobs Act of 2017 (TCJA) dependents (such as children) are not claimed as “tax dependents” with resulting exemptions on one’s Federal income tax return resulting in tax savings. But the Internal Revenue Code still maintains rules who can be claimed as “tax dependents.

Certain conditions must also be met in order to claim dependent care expenses. These conditions are:

• The employee must have incurred the expenses in order for the employee and (if married) the employee’s spouse to work, to look for work (provided a job is found and there is earned income), or to attend school full-time. 

• The payments for dependent care cannot be made to someone the employee can claim as a tax dependent or to the employee’s child who is younger than age 19.

• The qualified child or adult dependent must live in the home that the employee or the employee’s spouse lives in for more than half of the year. The child must have been under age 13 when care was provided and the employee must be able to claim the child as a dependent on his or her tax return. An exception to this rule is for children whose parents are divorced. Affected employees should read “Child of Divorce or Separated Parents” in IRS Publication 503 (Child and Dependent Care Expenses), downloadable from the IRS Web site (www.irs.gov).

Employees may set aside from their salaries to the DCFSA a minimum of $100 and as much as $5,000 per household, or $2,500 if married filing separately. Amounts withdrawn from salary are deducted before all taxes – Federal, state, Social Security (FICA) and Medicare Part A.

Examples of services eligible for reimbursement from a DCFSA are: (1) Placement fees for a dependent care provider such as an au pair; (2) before- and after-school day care other than tuition expenses; (3) care for an incapacitated adult who lives with the employee at least eight hours a day; (4) childcare at a day camp, nursery school or by a private sitter; (5) late pick-up fees; (6) expenses for a housekeeper whose duties include caring for an eligible dependent; and (7) summer or holiday day camp tuitions. A list of eligible expenses to be reimbursed under the DCFSA may be found at https://www.fsafeds.com/explore/dcfsa/expenses. 

Among the expenses that are not reimbursable by a DCFSA are: (1) Education or tuition fees; (2) expenses for childcare for children age 13 and older; (3) late payment fees; (4) overnight camps; (5) advance payment for services not yet provided; (6) sports lessons, field trips, clothing; and (7) transportation to and from the dependent care provider.

The DCFSA must be activated via payroll deduction before any funds are available for reimbursement. Employees can participate or re-enroll (if they participated in the DCFSA during 2019 they must re-enroll for 2020) the DCFSA for calendar year 2020 by going to the FSAFEDS Web site (www.fsafeds.com) and enrolling between Nov. 11 and Dec. 9, 2019. They will need to choose an amount ranging from $100 to $5,000 (in $100 increments) that will be deducted from their gross salary in 26 equal increments (starting with the first pay date in January 2020) and that will be used to fund their DCFSA. 

Once funds have been deposited in the DCFSA, eligible expenses incurred after Jan. 1, 2020 can be reimbursed. An employee with a DCFSA who incurs qualified dependent care expenses will pay these expenses and then apply to FSAFEDS for reimbursement. To be reimbursed from a DCFSA for dependent care expenses, the DCFSA owner must obtain from the daycare provider his or her Social Security number (SSN) or tax identification number (TIN). 

For further information about the DCFSA, employees should go to www.fsafeds.com or call 1-877-372-3337; TTY 1-866-353-8058.

Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Certified Employee Benefits Consultant, Registered Health Underwriter and IRS Enrolled Agent in Silver Spring, MD.  Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, located at 833 Bromley Street Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652.  

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