Bizarre Taxable Dependent Care

[Snaggletooth]

Give Up

I give up. Y'all have finally convinced me.

Thanks, Ron J.

[DaveO]

In most flex plans it's a "use it or lose it" proposition. If they got to keep the extra $400, then its taxable income. If not, then it was forfeit and should be reported on line 14 of the 2441.

[Burke]

Those who posted re: the excess DCB benefit being taxable are correct. Only the actual amt expended on the child care costs are tax free. Years ago, I had a client who had this benefit, but he paid the child care costs himself each week, let the DCB benefit accrue all year, then sent in the paperwork to claim it all and used the money to fund his family vacation. There is a break-even point where the 2441 credit and the DCB benefit, which reduces taxable income, makes one more advantageous than the other. Depends on the tax bracket, since the tax credit is limited. If you are in the 15% bracket or less, DCB does not make sense.

[FEDUKE404]

After the dust has settled

Those who posted re: the excess DCB benefit being taxable are correct. Only the actual amt expended on the child care costs are tax free. Years ago, I had a client who had this benefit, but he paid the child care costs himself each week, let the DCB benefit accrue all year, then sent in the paperwork to claim it all and used the money to fund his family vacation. There is a break-even point where the 2441 credit and the DCB benefit, which reduces taxable income, makes one more advantageous than the other. Depends on the tax bracket, since the tax credit is limited. If you are in the 15% bracket or less, DCB does not make sense.

From all the DCB plans I've encountered (including my own...a few years ago), the employee ALWAYS had "to pay the costs himself." Upon filing what amounts to a claim form with the program administrator (not unlike a medical insurance claim), the employee was then reimbursed from the account. The amount of reimbursement was limited to the amount of the claim and to the available funds in the account. For instance, a person who put $1200 into a DCB ($100/month) and filed a $400 claim for expenses paid in January would receive not $400 but rather $100. Depending on the program, he might get another $100 at the end of February, etc without having to file anything. One of the patent "warnings" with any dependent care program is that cash flow can potentially become a problem, i.e. paying the provider AND seeing your take-home pay decrease at the same time.

Regardless of when/how the child care was paid, the initial tax aspect remains the same: An entry is made in Box 10 of Form W2, and until you "prove" (via Form 2441) you had qualifying expenses, that number will theoretically be ADDED to your overall wage income on line 7 of Form 1040.

You are quite correct that persons in the lower tax brackets need to "run the math" to see if they come out ahead using available tax credits versus dependent care plans. Those in the higher tax brackets, and also those with a single qualifying individual, will come out ahead with the DCB.

What was creating a lot of confusion, at least on my part, re this thread was the insinuation that we were talking about employer-provided (on site) dependent care, which is an entirely more complex can of worms. A plain vanilla dependent care program, which is similar to a flexible spending account, is far simpler to deal with.

FE

[Gary2]

From all the DCB plans I've encountered (including my own...a few years ago), the employee ALWAYS had "to pay the costs himself." Upon filing what amounts to a claim form with the program administrator (not unlike a medical insurance claim), the employee was then reimbursed from the account. The amount of reimbursement was limited to the amount of the claim and to the available funds in the account. For instance, a person who put $1200 into a DCB ($100/month) and filed a $400 claim for expenses paid in January would receive not $400 but rather $100. Depending on the program, he might get another $100 at the end of February, etc without having to file anything. One of the patent "warnings" with any dependent care program is that cash flow can potentially become a problem, i.e. paying the provider AND seeing your take-home pay decrease at the same time.

Now you have me even more curious about the disbursement rules. FSAs are pre-loaded - you can sign up to have $500/month deductions start Jan. 1 (or whenever the plan year starts), have your laser eye surgery in Jan, pay $6K out of the FSA, and quit the job Feb. 1 - leaving the employer footing the remaining $5500 (though the max FSA is going down). Never having needed DCBs, I never really thought about whether the same rule applies.

[FEDUKE404]

Retrieving funds from FSA and DSB accounts

Now you have me even more curious about the disbursement rules. FSAs are pre-loaded - you can sign up to have $500/month deductions start Jan. 1 (or whenever the plan year starts), have your laser eye surgery in Jan, pay $6K out of the FSA, and quit the job Feb. 1 - leaving the employer footing the remaining $5500 (though the max FSA is going down). Never having needed DCBs, I never really thought about whether the same rule applies.

I can only answer from my own (pre-retirement) experience:

For medical FSAs, whatever is destined to be "in the account" (12 times monthly contribution) can be used at any time during the year. Let's say you have $100/month taken out, and in the first week of January file a legitimate claim for $1000. The claim will be paid in full, leaving you (for the year) $200 further available.

Assume same facts for a dependent care account. Filing a January claim will only result in a maximum "refund" of $100 (and likely only after payday!). You can only be paid funds that exist in the account. For my own plan participation, I usually had the maximum amount of claims ($5000 at the time?) by late spring, so filed enough by then to cover the full annual amount in the DCB plan. For the remainder of the year, I then automatically received a monthly check. As mentioned earlier, cash flow can become a consideration for those using DCBs.

And you are also correct about the FSA funds. I ceased working for my prior employer in August, and filed/used "12 months" worth of allowable claims while still employed. I had nothing to repay, nor any taxable income. Sometimes it IS nice to know the rules!!

CAVEAT: While I have confidence in the situations as I stated above, those rules applied roughly a decade ago.....so they may have changed.

FE