Dependent Care Flexible Spending Account

By Glenn J. Downing, MBA, CFP®

A flexible spending account (FSA) is an elective benefit offered by many employers. There are generally two types: the FSA for healthcare expenses, and the FSA for dependent care expenses. This is part two of a two-part series. Here I describe the dependent care flexible spending account. You’ll find my post on the healthcare FSA here.

Dependent care flexible spending account

The Dependent Care FSA is a great way to fund, on a pre-tax basis, childcare expense incurred so that the parent can go to work. You must claim the child as a dependent on your tax return. Also, the child must be under age 13. The maximum tax-free reimbursement under a dependent care FSA is $5000/year. If married, both spouses must work in order to benefit. There is an exception if the non-working spouse is a student or disabled. If one spouse earns less than $5000, the benefit is limited to the earnings of that spouse.

What are the eligible expenses?

There are many. Before and after-school care, but not tuition expenses. Care of an incapacitated adult who lives with you at least eight hours per day. Childcare at a day camp, nursery school, or by private sitter. Late pick-up fees covered. Expenses for a housekeeper whose duties include childcare. Summer day camps, including registration expenses. Activities in lieu of daycare, such as lessons.

What’s not covered? Tuition, primarily. Late payment fees, as opposed to late pick-up fees (above). Overnight camps. Field trips, clothing, and food. Transportation to and from the care provider. Expenses for any child age 13 or older.

Other warnings

• The use it or lose it rules apply more strictly to the dependent care FSA than to the healthcare FSA. There is no $500 carry forward available. Any amounts forfeited to the company become taxable.
• Amounts distributed from a dependent care FSA reduce the amount of eligible expenses used for the dependent care credit. That credit is 20% of eligible child care expenses up to $6000, for a maximum credit of $1200. If you withdraw, then, $5000 from your dependent care FSA, you must subtract that $5000 from your other eligible dependent care expenses you’ll use to calculate your credit.

How to take advantage?

Clearly this is a terrific benefit for someone with children 12 and under. If you know, for example, that you pay $600/month for childcare, then instead of paying for it all with after-tax dollars, send the $5000 max to the FSA. You can reimburse yourself from there. If you’re in a 25% marginal bracket, your tax savings are $1632.50 from both income and payroll taxes.

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