Tax-free child care? Sure!
New 529 plan rules allow usage for K-12 education
The recently enacted Tax Cut and Jobs Act (TCJA) contains a lot of changes, some of which were highly touted as helping alleviate the tax burden of many Americans. One of the items that received a lot of press is the ability to use 529 savings plans to pay for up to $10k per year of K-12 education. Prior to the TCJA, 529 accounts could only be used to pay for college and post-college education. In theory, the TCJA would allow a deposit into the 529 account for $10k and then the funds could be withdrawn a few days later (depending on the plans deposit/withdrawal time rules). This would generate the allowable tax credit for the contribution thereby reducing the tax burden of the contributor and making the private school tuition payment cost less, from a cash flow perspective. You could, of course, plan further ahead and also allow the growth of the $$$ in the 529 to be tax free.
What they forgot to tell us (so kind of them!)
What we weren't told: while this TCJA allows for the 529 plan to be used for K-12 education, the actually regulations for this must occur on the state level because the 529 plans are managed by the states. Many states, New York being an example, have not changed their 529 plan rules and you CANNOT use the 529 plan to pay for K-12 education. We do not know if or when various states will change their plan regulations. So, if this was your plan or if this 529 option was your silver lining to a tax bill that you otherwise weren’t a fan of…sorry…better luck next time.
You have options!
You could ask ‘is there any other way I can save some taxes while paying for K-12 education’. Well, yes…yes, there is. How? It’s actually not so difficult. It does depend on your employer and benefits provider so this is not something that is universally available but it is widely available. I’m sure the suspense is killing you. Before you swipe to the next article in disgust, here’s the answer…dependent care flex spending accounts (DCFSA).
Flex spending accounts must be available via your employer in order for you to take advantage of this option and can only be used for children under 13 years of age (unless it is for a relative that lives with you that is physically or mentally incapable of self care). You can use this to pay for preschool, after school care, tuition and summer camp among other things. You are allowed to contribute up to $5000 of pretax money per year to these accounts. If you are in a 25% tax bracket, a $5000 pre tax contribution to a DCFSA equates to tax savings of approximately $1632 (income tax plus payroll taxes). That’s a pretty sweet deal!
A couple of cautions here. First, if you don’t use it, you lose it. Make sure you only contribute what you know you can use or you are out of luck. Second, you cannot use the expenses paid for from the DCFSA account towards the child tax credit on your tax return. Essentially, you can't double dip. Therefore, for lower earners, it might be more beneficial to use the child care credit as opposed to the DCFSA. For some other folks, if you have a tuition expense of $15K per year, you can use $5000 from the DCFSA account and still put the balance paid out of pocket of $10k towards the child care credit (you’ll quickly max out on the credit)…just no double dipping.
Hopefully the DCFSA removes some of the disappointment for those of us not able to use the new 529 plan rules to our advantage. If Ditsky Strategic can be of any assistance in navigating your options, feel free to reach out!
Adam Ditsky, CPA
President, Ditsky Strategic
Phone: (646) 380-6651
The topics contained within this article are for discussion purposes only. You should not construe anything contained above as professional advice. Please contact your CPA or financial advisor for questions specific to your financial situations.