COVID-19 has had an unprecedented impact on the lives of workers and their families. Workers participating in a Dependent Care Flexible Spending Account (DCFSA) may be wondering what to do about their DCFSA, how to spend down their accounts, and whether they can use existing funds in the account for certain situations.Subscribe
Recent IRS guidance provides flexibility for employers to make changes to their DCFSA programs and allow employees to spend down their prior plan year DCFSA accounts. This is a recap of the current DCFSA options available to employers, taking the recent IRS guidance into consideration.
Options Available to Employers
Mid-Year Election Changes
In Notice 2020-29, the IRS increased flexibility through December 31, 2020, to allow mid-year annual election changes to the dependent care account to qualify as a “change in status” that allows employees to make a prospective adjustment to the funds being deposited into a DCFSA. Employers can decide whether to allow these changes and the extent of the allowable change(s). This rule is optional for employers and is not required. The IRS mid-year changes help those whose care needs have changed due to COVID-19 fallout. Based on current IRS guidelines, funds that have previously been taken out of paychecks to fund a DCFSA account cannot be pulled out or refunded. The relief only involves future contributions at this time. The flexibility can help consumers who may have over- or under-estimated their needs when they determined account funding last year.
Off-Calendar Year Plans or Plans with Grace Periods
IRS Notice 2020-29 provides increased flexibility with respect to certain cafeteria plans to apply unused amounts in a DCFSA to pay or reimburse dependent care expenses incurred through December 31, 2020. This provision will not apply to all FSA plans, but to plans that do not run on a calendar year basis or plans that have a grace period ending in 2020 that applies to the DCFSA. This rule is optional for employers and is not required.
Off-calendar year plans – if the employer maintains a cafeteria plan with an off-calendar plan year and wishes to implement the extended period, the entire unspent 2019-2020 DCFSA balance will be available to spend through December 31, 2020. For example, an employer has a cafeteria plan year of April 1, 2019 – March 31, 2020 and does not provide a grace period for the DCFSA. Employee A has $2,000 remaining in their DCFSA account as of March 31, 2020. Employee A has until December 31, 2020 to “incur” dependent care expenses and submit claims for reimbursement, thereby spending down their March 31, 2020 DCFSA balance.
Plans with grace periods ending in 2020 – a grace period is a period of time up to 2½ months “after” the end of the plan year where DCFSA participants may incur and be reimbursed for dependent care expenses. If the employer maintains a cafeteria plan that contains a grace period for the DCFSA and wishes to implement the extended period, the entire unspent 2019-2020 DCFSA balance will be available to spend through December, 31, 2020. For example, an employer has a cafeteria plan year of April 1, 2019 – March 31, 2020 and the grace period for the plan year ends on June 15, 2020. Employee A has $2,000 remaining in their DCFSA account as of June 15, 2020. Employee A has until December 31, 2020 to “incur” dependent care expenses and submit claims for reimbursement, thereby spending down their March 31, 2020 plan year $2,000 DCFSA balance.
Can an employee change their DCFSA annual election due to COVID-19 issues?
If an employer implements the mid-year election changes pursuant to IRS Notice 2020-29 between now and December 31, 2020, the employee may change their annual DCFSA election for any reason. As mentioned above, employers may limit the period of time that the employees may make the election changes and they may impose other restrictions such as limiting the annual election changes to amounts already reimbursed and/or deposited. If an employer does not implement the Notice 2020-29 mid-year election changes, DCFSA elections can still be increased or decreased due to a change in the employee’s or spouse’s work schedule. For example, schools and care providers may be closed for a period of time due to COVID-19, which may cause a change in dependent care expenses for employees. Parents may not be paying for dependent care during this period if their children are at home and the parents are working remotely from home or have temporarily stopped working. Based on the current IRS regulations and comments made by the IRS, DCFSA elections can be increased or decreased due to a change in the employee’s or spouse’s work schedule. The DCFSA annual election allowable change is based on the circumstances of the employee. If the child is no longer at day care and therefore the annual day care costs will be lower for a parent, an employee may decrease their DCFSA annual election. If the employee hires a nanny and dependent care costs increase, the employee may increase their DCFSA annual election.
How long does a participant have to make a change to their DCFSA election?
If an employer implements the mid-year election changes pursuant to IRS Notice 2020-29, the employer can determine the period of time that employees may change their DCFSA annual elections. Once this period of time ends, the DCFSA election changes must follow the election change process provided under the plan document. Under the normal rules, the IRS is more lenient on DCFSA election changes than with health FSA election changes, so employees may change their DCFSA election based on their circumstances at any time. Employers should apply the same timing as other election changes (e.g., 30 days after the event), and base the event on the circumstances, e.g., the date the employee’s child returns to normal school/day care activities.
Can dependent care expenses be incurred and eligible for reimbursement if a caregiver is at home and not working during a mandated employer work suspension?
IRS guidance has not changed these rules. The IRS has strict rules that indicate an employee must be gainfully employed or seeking employment for dependent care expenses to be eligible for reimbursement. If parents are not working due to a COVID-19 work suspension, any dependent care expenses incurred during this time would not be eligible for reimbursement. However, the IRS makes an exception if the absence is 2 weeks or less.
What if an employee is working remotely and incurs day care costs?
IRS guidance has not changed these rules. If an employee is working remotely and the employee is incurring dependent care expenses (e.g., expenses for a nanny or their child attends a day care center that has not closed), these expenses should be eligible for reimbursement. This is because the employee is considered gainfully employed, working from home. However, if there is a non-working spouse at home, the dependent care expenses would not be eligible for reimbursement.
What if an employee contracts COVID-19 and is not able to work for an extended period of time?
IRS guidance has not changed these rules. If the absence is longer than 2 weeks, any dependent care expenses incurred during the absence would not be eligible for reimbursement as illness is not a reason you may continue to incur dependent care expenses during a leave.
What happens if a DCFSA participant still has money in the DCFSA as of the submission claims deadline?
IRS guidance has not changed these rules. Even if an employer has implemented the extended period of time to allow participants to incur and be reimbursed for dependent care expenses, any amount remaining in the account as of the claims submission deadline will be forfeited. Unfortunately, the law still requires that you “use it or lose it.” The IRS cannot provide relief from the “use it or lose it” rule as this would require Congress to pass a bill to eliminate the rule and this is very unlikely. For this reason, workers should continue to assess their DCFSA expenses throughout the year and if there is a change in costs or circumstances, they should determine if they are eligible to make a change to their annual DCFSA election.
TRI-AD has a full-service compliance department that is closely monitoring legislative and regulatory modifications and we will provide updates if additional changes are announced.
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