Are Daycare Expenses Eligible for a Dependent Care FSA?
Strategically manage your family's care expenses and unlock tax benefits with a Dependent Care Flexible Spending Account.
Daycare expenses are eligible for reimbursement through a Dependent Care Flexible Spending Account (DCFSA). This account offers a tax-advantaged way for individuals to pay for care services that allow them to work or look for work. By setting aside pre-tax money, participants can reduce their taxable income, leading to savings on qualified care costs. The eligibility of these expenses depends on specific IRS rules regarding the type of care, the age and condition of the dependent, and the purpose of the care.
Understanding the Dependent Care Flexible Spending Account
A Dependent Care Flexible Spending Account (DCFSA) is an employer-sponsored benefit allowing employees to set aside pre-tax money for eligible dependent care services. This account differs from a Health Flexible Spending Account (FSA) as it is specifically designed for care-related expenses, not medical costs. The primary purpose of a DCFSA is to help individuals manage the financial burden of care for qualifying dependents, enabling the account holder and their spouse, if applicable, to be gainfully employed or actively seek employment.
Funds contributed to a DCFSA are deducted from an employee’s paycheck before taxes, meaning the money is not subject to federal income, Social Security, or Medicare taxes. This pre-tax advantage can lead to substantial savings on out-of-pocket care expenses. While DCFSAs offer significant tax benefits, they are subject to a “use-it-or-lose-it” rule, meaning any funds not used by the end of the plan year may be forfeited.
Eligible Care Expenses
A Dependent Care FSA covers various types of care services necessary for an individual to work or look for work. Common eligible expenses include care provided in a daycare center, nursery school, or by a private sitter, whether in-home or out-of-home. Before- and after-school care programs are also covered, as are summer day camps. Custodial care for an adult dependent who is physically or mentally incapable of self-care and lives with the account holder can also be an eligible expense.
Certain expenses are not eligible for reimbursement through a DCFSA. These include educational expenses, such as tuition for kindergarten or higher grades, and overnight camps. Medical care costs, food expenses, and fees for activities like dance lessons or piano lessons are also excluded. Furthermore, care provided by certain individuals, such as the dependent’s parent, the account holder’s spouse, or a child of the account holder under age 19, is not eligible.
Qualifying Individuals
For care expenses to be eligible for DCFSA reimbursement, the care must be provided for a qualifying individual. This includes a dependent child under the age of 13. A spouse who is physically or mentally incapable of self-care and lives with the account holder can also be a qualifying individual. Additionally, a dependent, as defined by the IRS, who is physically or mentally incapable of self-care and lives with the account holder for more than half the year, also qualifies.
The care must be necessary for the account holder and their spouse, if married, to work or actively look for work. If one spouse is not working, the care expenses are not eligible unless that spouse is a full-time student for a portion of the year or is physically or mentally incapable of self-care.
Using Your Dependent Care FSA for Reimbursement
The Internal Revenue Service (IRS) sets annual contribution limits for Dependent Care FSAs. For 2024 and 2025, the maximum amount an individual or married couple filing jointly can contribute is $5,000 per household. For married individuals filing separately, the limit is $2,500 per person. These limits apply to the calendar year, regardless of the employer’s plan year.
To receive reimbursement, individuals incur an eligible expense and pay the care provider out-of-pocket first. A claim form is then submitted to the FSA administrator, along with documentation. This documentation includes itemized receipts or invoices detailing the type of service, dates of service, the dependent’s name, the amount billed, and the provider’s name, address, and Tax Identification Number (TIN) or Social Security Number (SSN). Reimbursement is only for expenses already incurred, not for future services.
Key Considerations
While Dependent Care FSAs offer tax advantages, it is important to carefully estimate annual care expenses due to the “use-it-or-lose-it” rule. This rule stipulates that funds not used by the end of the plan year are generally forfeited. Some plans may offer a grace period of up to 2.5 months into the following plan year to incur new eligible expenses, but carryovers are not permitted for DCFSAs.
Individuals cannot “double dip” by using the same care expenses for both DCFSA reimbursement and the Child and Dependent Care Tax Credit. It is necessary to choose which benefit provides the greater tax advantage for a specific situation. A DCFSA may be more beneficial for higher-income earners due to pre-tax savings, while the tax credit might be more advantageous for those with lower incomes or who do not have access to an employer-sponsored DCFSA.
Maintaining thorough records is essential for DCFSA participation. This includes keeping all receipts, invoices, and provider information, as these documents may be required by the FSA administrator for reimbursement or by the IRS for tax verification. Care providers must furnish their Tax Identification Number (TIN) or Social Security Number (SSN) for tax reporting purposes.