Edward A. Zurndorfer
As the cost of living rises from year to year, child and adult day care expenses also continue to grow. According to the U.S. Department of Agriculture, child and adult dependent day care is the third-largest expense in a family’s budget, behind food and housing1. Additional research shows that parents in the U.S. spend over $9,000 a year for one child’s day care2. Custodial care for dependent adults such as parents and disabled parents is even more, with non-medical home health aides costing an average of slightly more than $4,000 a month, nearly $50,000 a year3.
Many federal employees have young children and/or dependent adults and who are incurring child and/or adult care expenses for these children and adults respectively in order to allow these employees and their spouses to work. One of the tax preferential ways to pay for child and adult day care expenses is through a dependent care flexible spending account (DCFSA).
A DCFSA allows an employee to be reimbursed for out-of-pocket dependent care expenses. Federal 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 FSAFEDS, which offers a DCFSA.
The money an employee contributes to a DCFSA via payroll deduction is set aside before federal and state income taxes, Social Security (FICA) and Medicare Part A (hospital insurance) payroll taxes are deducted, resulting in overall tax savings ranging from 20 to 50 percent depending on an employee’s overall marginal tax bracket. The average tax savings for an employee earning $50,000 who contributes $2,000 to the DCFSA is approximately $600. That means that employees setting aside $2,000 to the DCFSA get approximately $2,000 worth of dependent care purchasing power plus overall tax savings of about $600.
The DCFSA is a separate account (separate FSA from the other FSA – the healthcare FSA or HCFSA) and is available to reimburse employees for the qualifying dependent care expenses of a tax dependent. During 2021, a maximum of $5,000 can be contributed to the DCFSA. Enrollment in the DCFSA for 2021 is made during the federal benefits “open season” currently being held between November 9, 2020 and December `14, 2020. Enrollment is made online here. If an employee had a DCFSA during 2020, then the employee must re-enroll for 2021. There is no “carryover” of DCFSA participation from one year to the next.
To own and to use the DCFSA, the employee (or the employee’s spouse, if married) must have earned income (wages, salary) 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 married individual filing jointly with a spouse; or
- $2,500 for a married individual filing separately with a spouse.
The DCFSA allows employees to be reimbursed on a before-tax basis for child or adult tax dependent care expenses. A qualifying tax dependent includes: (1) the employee’s dependent child who is younger than age 13; or (2) the employee’s adult tax dependent of any age, including parents, parents-in-law, a sibling, 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) downloadable here. Note that under the Tax Cuts and Jobs Act of 2017 (TCJA), dependents including children are not formally claimed as “tax dependents” with resulting exemptions on one’s federal income tax return. But the Internal Revenue Code still maintains rules who can be claimed as a “tax dependent.”
Certain other conditions must also be met to claim dependent care expenses and be reimbursed from one’s DCFSA, including:
- 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, or to attend school full-time.
- The payments for the dependent care expenses 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. An exception to this rule is for children whose parents are divorced. Affected employees should read “Children of Divorced or Separated Parents” in IRS Publication 503 (Child and Dependent Care Expenses) downloadable here. A child must have been under age 13 when dependent care was provided.
Examples of dependent care 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; (4) tuition for nursery school, daycare center and summer camp (day camp only); and (5) expenses for a housekeeper whose duties include caring for an eligible dependent. A list of eligible expenses to be reimbursed under the DCFSA may be found here.
Among the expenses that are cannot be reimbursed by a DCFSA are: (1) education or tuition fees; (2) expenses for children above the age of 12; (3) late payment fees; (4) overnight camp; (5) advance payments 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 funded via payroll deduction before funds are available for reimbursement. Employees can participate or re-enroll (if they participated in the DCFSA during 2020, they must re-enroll for 2021) by going to the FSAFEDS Website and enrolling between November 9 and December 14, 2020. 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 2021 and ending with the last pay-date in December 2021, and that will be used to fund their DCFSA.
Once funds have been deposited into the employee’s DCFSA, eligible expenses incurred after Dec. 31, 2020 can be reimbursed. An employee with a DCFSA who incurs qualified dependent care expenses will pay first these expenses and then apply to FSAFEDS for reimbursement. To be reimbursed by FSSAFEDS, the DCFSA owner must obtain from the dependent care provider his or her Social Security number or tax identification number.
For further information about the DCFSA, employees should go to here, or call 1-877-372-3737; TTY: 1-866-353-8058.
- “The Cost of Raising a Child.” U.S. Department of Agriculture
- “The U.S. and the High Cost of Child Care: A Review of Prices and Proposed Solutions for a Broken System.” 2018 Report Child Care Aware of America.
- “Custodial Care.” Click here.
Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist 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, and EZ Federal Benefits Seminars, located at 833 Bromley Street – Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While the employees of Serving Those Who Serve are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.