Can You Roll Over a Dependent Care FSA Balance?
Understand whether unused Dependent Care FSA funds can roll over, key contribution rules, eligible expenses, and important tax implications.
A Dependent Care Flexible Spending Account (FSA) allows employees to set aside pre-tax dollars for childcare or elder care expenses. Unlike a Health FSA, which often permits some unused funds to roll over, a Dependent Care FSA follows stricter rules. Understanding these rules helps employees avoid losing unused funds at the end of the plan year.
Rollover Provisions
A Dependent Care FSA does not allow unused funds to roll over into the next plan year. Under IRS regulations in Section 129 of the Internal Revenue Code, any remaining balance is forfeited unless the employer offers a grace period, which extends the spending window by up to 2.5 months. For instance, if the plan year ends on December 31, employees may have until March 15 to incur eligible expenses. This extension is not automatic and varies by employer.
Some plans also include a run-out period, which allows extra time to submit claims for expenses incurred during the previous year but does not extend the spending period. If a plan offers a run-out period until March 31, employees can submit receipts for expenses from the prior year but cannot use funds for new expenses beyond December 31.
Contribution Rules
The IRS caps Dependent Care FSA contributions at $5,000 per household or $2,500 for married individuals filing separately. These limits, set under Section 129 of the Internal Revenue Code, are not adjusted for inflation. Employers may impose lower limits, so employees should verify their specific plan’s cap before enrolling.
Contributions are deducted pre-tax from an employee’s paycheck, lowering taxable income. Unlike a Health FSA, where the full annual election is available immediately, Dependent Care FSA funds are only accessible as they are contributed. For example, if an employee elects to contribute $5,000 annually but has only contributed $1,250 by the end of March, only that amount is available for reimbursement at that time.
Mid-year contribution changes are generally prohibited unless a qualifying life event occurs, such as marriage, divorce, the birth or adoption of a child, or a change in employment affecting dependent care needs. Adjustments must align with IRS guidelines and be directly related to the event.
Eligible Expense Coverage
Funds in a Dependent Care FSA can only be used for expenses that allow the employee and their spouse, if applicable, to work or look for work. The IRS defines qualifying expenses under Publication 503, including care for children under age 13, disabled spouses, or other dependents incapable of self-care. Payments to daycare centers, babysitters, nannies, and certain after-school programs qualify, provided the service is not performed by a spouse or another dependent.
Summer day camps are eligible, but overnight camps are not, as the IRS distinguishes between custodial care and general living expenses. Private school tuition for kindergarten and above is also ineligible, though pre-kindergarten programs and nursery schools qualify since they primarily provide custodial care.
In-home care is eligible as long as the caregiver is not the employee’s tax-dependent. Hiring a relative, such as a grandparent, may be allowed if they are not claimed as a dependent. Payments to a household employee may also trigger tax obligations, such as the “nanny tax,” requiring wages to be reported on Schedule H and potentially subject to Social Security and Medicare taxes.
Tax Considerations
A Dependent Care FSA lowers taxable income but interacts with the Child and Dependent Care Tax Credit (CDCTC). The IRS prohibits double-dipping, meaning expenses reimbursed through an FSA cannot also be claimed for the CDCTC. However, if dependent care expenses exceed the FSA contribution limit, the excess may qualify for the credit. For example, if a household spends $7,000 on childcare but contributes only $5,000 to an FSA, the remaining $2,000 may be eligible for the credit.
The CDCTC allows taxpayers to claim a percentage of eligible expenses, ranging from 20% to 35% based on adjusted gross income (AGI). Households earning $43,000 or more qualify for the minimum 20% credit, while lower-income taxpayers receive a higher percentage. Since an FSA provides tax savings at the employee’s marginal tax rate, those in higher brackets often benefit more from an FSA than from the credit. For instance, a household in the 24% tax bracket saves $1,200 in federal income taxes on a $5,000 FSA contribution, which may be more advantageous than the CDCTC.
Plan Documentation
Employers establish Dependent Care FSA rules through a formal plan document, outlining eligibility, contribution limits, reimbursement procedures, and any grace or run-out periods. While IRS regulations set the framework, employers have discretion over certain provisions, making it essential for employees to review plan details to avoid forfeitures.
Reimbursement requests typically require an itemized receipt including the provider’s name, service dates, a description of the care provided, and the amount paid. Some employers may also require a Dependent Care Provider Certification form, particularly if the provider does not issue formal receipts. The IRS mandates that employees report the provider’s name, address, and Taxpayer Identification Number (TIN) or Social Security number when filing taxes, as failure to do so can result in denied deductions or penalties.