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IRS Issues Guidance on Taxability of DCAP Benefits for 2021, 2022

The American Rescue Plan Act of 2021 (ARPA) increased the amount employees can exclude from their 2021 gross taxable income for employer-provided dependent care assistance program (DCAP) benefits under Internal Revenue Code (IRC) Section 129. Such benefits are often provided in the form of pretax employee contributions to a dependent care flexible spending account (DCFSA) through a Code Section 125 cafeteria plan.

Generally, the amount that can be excluded for DCAP benefits is limited to $5,000 (or $2,500 for married individuals filing separately). For 2021, ARPA has increased that limit to $10,500 (or $5,250 for married individuals filing separately).

The ARPA increases had resulted in many questions regarding the taxation of the DCAPs given the change in allowable contributions. As such, on May 10, 2021 the IRS released guidance on the taxability of DCAPs for 2021 and 2022, clarifying that amounts attributable to previously issued carryover and extended grace period relief generally are not taxable. The guidance also provides some examples for reference.

Read the Legal Update.

Contact your Cowden representative for more information on this or other compliance issues.