Childcare FSA vs Tax Credit – Why Not Both?

Shae’s annual employee benefits enrollment period is up and we must make decisions on what kinds of medical, dental, vision, life insurance, and flex spending that we want to participate in for the 2015 year.  Most of these we just stuck with our current status quo, but we did make changes and have started to contribute to a childcare flexible spending account starting in January of 2015.

Flexible Spending Account

An FSA is a tax advantaged account that some employers offer, you cannot set one up on your own.  Some of your paycheck is diverted to this special account and you can be reimbursed for qualified expenses.  At the end of the year, any remaining money in the account is forfeited, so it is critically important to plan ahead and know how much you will be spending for that year at the time of enrollment.


The big advantage of an FSA, is that it is tax free money.  If you are in the 15% tax bracket and don’t use a childcare FSA (we weren’t for 2014) then for every $1 you earn only $0.85 of that dollar is available to be spent on childcare.  The rest goes to Uncle Sammy.  You can also think of it as a 15% discount on childcare, something unheard of for single children.


To use an FSA you must adhere to these requirements:

  • $5,000 cap for married filing jointly couples
    • OR the lower of $5,000 and the lowest spouse’s income (if one spouse makes $3000, you are capped at $3000)
  • Any left over money is forfeited
  • Both spouses must work and have earned income
    • Exception: One spouse was a student for at least five months
  • Employer must offer a FSA
    • Some employers have lower contribution caps
  • Qualified Expenses only
    • You must fill out a claim form
    • Provide receipts
    • Include signature of care provider

Childcare Tax Credit

A more accessible way of reducing the cost of childcare is to claim the childcare tax credit.  This tax credit has many of the same conditions as the FSA.  Namely,

  • Both spouses must work and have earned income
  • Qualified expenses only
    • No double dipping with FSA
  • $3k cap for single child, $6k cap for 2+ children
  • AGI, taxable income, must be below $110k for married filing jointly

The tax credit operates on a sliding scale based off your adjusted gross income.  Families with AGI of less than $15k, receive the full amount of qualifying expenses up to the cap.  For example a student that has a $10k stipend and paid $3k in childcare would be fully reimbursed by Uncle Sam.  If your AGI is over $43k, then the reimbursement drops to 20% of expenses.  For a single child with the cap of $3k in qualifying expenses, the credit with return 0.2*3000 = $600.

Why Not Both?

Because the caps for each of these offerings is lower than the average cost of childcare ($11,600/year) chances are good that you could combine the two to maximize your savings.  For example, in our situation, we could use the FSA for the first $5k in expenses and save 15% on childcare.  Expenses between $5-8k would be covered by the tax credit and be marked 20% off.  Expenses beyond $8k wouldn’t be eligible.

The nice thing about the FSA is that it reduces your taxable income (AGI).  That could put you into a lower tax bracket, it will save you on state income taxes (5% for Illinois), and it gets you out of Social Security and Medicaid taxes.

By using these strategies we anticipate saving around $1000 a year in childcare expenses.  Our childcare provider gets paid the same amount as before and the only difference on her end will be signing some reimbursement forms a few times a year for the FSA and signing a W-10 form once a year for the tax credit.

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