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Anyone who works with Dependant Care Assistance Plans (DCAPs) can take a sigh of relief. On May 24, 2006, the IRS issued proposed regulations on Dependent Care expenses, replacing outdated regulations that had not changed in more than two decades. These proposed regulations apply to individuals who participate in DCAPs and who claim the Dependent Care Tax Credit.
In summary, there were no major changes to the existing law; instead, this constitutes a renumbering and restructuring of existing regulations “to improve clarity”. Thus, the new 26 CFR § 1.21 replaces the old 26 CFR § 1.44A.
A brief overview of the changes and clarifications related to DCAPs is as follows:
- Children of Separated/Divorced Parents. Only the custodial parent can claim the expense. The custodial parent is the parent whom the child shares the same principal place of abode for most of the calendar year.
- Nursery/Pre-Kindergarten Expenses. These expenses are considered care even if a significant part of the program is educational. Any program at a kindergarten level or above is considered primarily educational. Of course, if the program is a before-school or after-school program at kindergarten level or above, that qualifies as a dependent care expense.
- Day Camps. The full amount paid for a day camp is a legitimate expense, even if it is specialized (i.e., soccer, computers).
- Transportation Expenses. These are not dependent care expenses unless furnished by the dependent care provider.
- Application/Agency Fees. These are dependent care expenses.
- Leaves of Absence. If an individual is absent from work for a short, temporary period of time (i.e., vacation, minor illness), expenses incurred during that time are legitimate. Otherwise, for longer periods, those expenses are not legitimate. The IRS has asked for comments on how to distinguish between the two.
- Part-Time Employees. If a part-time employee pays for dependent care on a weekly or longer basis, the individual needs to allocate the expenses between days worked and days not worked. Otherwise, the part-time employee would need to allocate expenses.
- Payment to Related Individuals. Payments to the individual’s spouse or to a non-spousal parent of the child are not legitimate dependent care expenses.
The regulations will apply for taxable years ending after the date on which the regulations are finalized, but employers and individuals may rely on the proposed version until the final version is released. To obtain the new regulations, visit our website at: www.benefitsolved.com, click on Benefit Resources, scroll down and click on the Federal Regulations PDF, the regulations are on the upper right side under the FSA area.
Infinisource is reviewing the regulations to ensure that our DCAP claims processes comply with the proposed regulations and to determine whether we should issue comments to IRS on the proposed regulations.
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