Refunding Dependent Care Flexible Spending Accounts: What is Allowable?

November 19, 2020

With much yet to be determined regarding COVID-related temporary changes and pending legislation, there continue to be outstanding questions surrounding the use of dollars allocated to Dependent Care Flexible Spending Accounts (DCFSA). As of the time of this writing, there has been no further guidance issued by regulatory agencies or any new legislation that would expand or clarify the CARES Act and related provisions. Many employers and their participants are left to wonder how to use remaining DCFSA funds that were allocated for 2019 or elected in 2020. There are also open questions surrounding whether to elect or make contributions in the 2021 plan year, with uncertainty as to childcare availability or the temporary extensions that have been passed. Here’s what we do know:

Unused 2020 funds

As some daycares remain closed and preschools move to online learning, a growing number of DCFSA participants have asked about virtual arrangements. While the IRS has expressed awareness of this as an alternative, they have not yet added virtual arrangements to the list of eligible expenses for dependent care. The reasoning lies in the definition of “care.”  Pre-tax dollars are set aside for those providers of physical care not replaced by educational programming. To look at it in the most basic form, a provider on the virtual end of a computer screen could not keep nor administer care to a child who chooses to get up and wander away from the screen.

Refund of Dependent Care Assistance amounts

While an employer CANNOT refund back to an employee DCFSA amounts not used after the end of the plan year, there is one exception. In a recently released information letter, the IRS indicated that under IRS Notice 2020-29, employers may amend their cafeteria plans to provide participants with increased flexibility to make midyear election changes, and to extend the period for incurring DCAP claims to the end of 2020. IRS Notice 2020-29 does not modify the rule that an employee cannot receive amounts from a DCAP other than as reimbursement for dependent care expenses. One exception to the above prohibition is under Proposed Treasury Regulations Section 1.125-5(o)(2). It provides that forfeitures can be returned to employees on a reasonable and uniform basis. Employers should check their plan document to determine how forfeitures can be used.

2021 Plan Year Enrollment

Employees may be uncertain regarding their dependent care needs for the upcoming plan year. There are two ways flexibility can be provided by employers:

1. DCFSA plans can be designed to allow for a special open enrollment once or multiple times during the plan year until the “Outbreak Period” (60 days after the announced end of the National Emergency or such other date announced by the DOL/IRS) is determined to be over. Keep in mind that the plan documents and SPD must clearly state the plan sponsor’s intent to do this, and additional costs could be incurred for midyear plan changes.

2. Participants can be notified that they are able to enroll in a dependent care plan with a minimum election amount. Then they can increase or decrease the election amount if they have a qualifying event that changes the cost of their childcare. Qualifying events may include a change in at-home care provider, change in provider fees, or change in participant or participant’s spouses’ work schedule or hours.

We continue to await further guidance and pending legislation to extend the temporary extensions or allow carryover of funds to avoid the use-it-or-lose-it scenario with DCFSA plans and others. With the uncertainty of the COVID pandemic, employers and employees have a lot to consider relating to their healthcare dollars and how to fully utilize the advantages of pre-tax cafeteria plan benefits. Chard Snyder will continue to monitor and notify you of regulatory updates that affect your benefit plans as we become aware of them.