There are some catches, but used right, dependent care FSAs can put more money in your pocket.

By Lauren Phillips
August 27, 2020
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It’s no secret that starting a family is expensive. There are housing costs, of course, plus the cost of feeding and clothing children until they’re adults (and sometimes beyond)—and then there’s paying for college to consider. Less obvious than those expenses but equally challenging is the cost of childcare.

In a country where many families have two working parents (and many others are a single-parent household), childcare is essential: Children need to be cared for while parents are working, and because children don’t start attending school until they’re 4 or 5, that early childcare often comes from daycares, camps, and other centers. (Even school-age children need supervision during the summer or after school, when school’s out but parents are still working.)

According to an analysis by the nonpartisan Center for American Progress, it costs $1,230 per month, on average, to provide center-based childcare for an infant in the U.S.—as much as, if not more than, rent in many places. That cost can be challenging for many parents; fortunately, there are methods of reducing childcare costs and saving money on childcare beyond just the dependent tax credit: Meet the dependent care flexible spending account, or dependent care FSA.

A dependent care FSA is an employer-provided flexible spending account that allows parents to set aside money pre-tax for childcare. There are no income limits for opening a dependent care FSA, but a household can only contribute $5,000 per year, regardless of how many kids they have. Account holders can submit receipts for reimbursement from their dependent care FSA, though like other FSAs, the funds don’t carry over from year to year—all money in a dependent care FSA must be used within the year it was contributed.

Unlike a healthcare FSA, a dependent care FSA allows people to set aside money for childcare expenses, not medical costs. Like the other FSA, though, a dependent care FSA reduces taxable income, helping people save on taxes. Contributions to both sorts of FSAs are taken from paychecks pre-tax and deposited into the corresponding account. Fortunately, having a dependent care FSA does not mean you cannot have a healthcare FSA or even a health savings account (HSA)—contributions to each account are earmarked appropriately on pay stubs, so you can always track how much you’ve contributed to each account.

“We love dependent care FSAs,” says Katie Waters, CFP, founder of Stable Waters Financial, a Georgia-based financial planning firm. They allow parents to intentionally set aside money for childcare, while also saving money on taxes: If they reach the contribution limit, parents can reduce their taxable income by $5,000, saving a substantial amount on taxes.

With a dependent care FSA, parents pay upfront for childcare, and then file for reimbursement later. You can only be reimbursed for what you’ve already contributed to the account, so it may not be possible to get reimbursed until later in the year, when you’ve funded the account. Waters says she encourages some clients to just file once a year, for a lump-sum reimbursement, but families can also file monthly to get funds to pay for the next month’s childcare if needed. The key is to remember to file on time: If you file too late, you may lose the funds.

The downside to a dependent care FSA is that, with a $5,000 contribution limit, it’s unlikely to completely cover the cost of childcare. Still, saving anything on taxes is better than saving nothing, and because childcare is an essential expense, getting reimbursed for at least part of it can feel a little like a windfall. It’s also important to note that contributions can’t be changed without a qualifying event, though: Once you decide how much you want to contribute to a dependent care FSA during the enrollment period (which you must do every year), you are tied to that amount for the year unless there’s a change in employment or family size.

Dependent care FSA funds can be used for expenses related to caring for any dependent, not just children—think a spouse who is unable to work and care for themselves or another adult dependent. Qualified expenses beyond childcare center costs include in-home care, summer day camps, and before- and after-school care.