Yesterday the IRS released Notice 2021-26, which clarifies that if eligible dependent care benefits would have been excluded from income if used during either the prior tax year (2020 or 2021), these benefits remain excludable from gross income and are not taxable wages to the employee for the tax years ending in 2021 or 2022.  The Notice also clarifies that these benefits will not be taken into account for purposes of the application of the limits under section 129 to other dependent care benefits available for the tax years ending in 2021 and 2022.

Generally, carryovers of unused dependent care assistance program amounts are not permitted (although a 2½ month grace period is allowed).  Due to the application of either the carryover or the extension of a claims period of the “Taxpayer Certainty and Disaster Tax Relief Act of 2020” (enacted as part of the Consolidated Appropriations Act, 2021, (CAA)), employers may permit the carryover of unused dependent care assistant program balances to plan years ending in 2021 and 2022, or may extend the period for incurring claims to plan years over the same period.  These carryover and extension of claims periods are helpful to individuals who have set money aside for dependent care reimbursements, but who have been unable to use the dollars because of the coronavirus pandemic.

Notice 2021-26 supplements Notice 2021-15 (issued earlier this year in February), which states  if an employer adopted a carryover or extended period for incurring claims, the annual limits for dependent care assistance program amounts apply to amounts contributed, not to amounts reimbursed or available for reimbursement in a particular plan or calendar year.  Yesterday’s Notice clarifies that if these dependent care benefits would have been excluded from income if used during taxable year 2020 (or 2021, if applicable), these benefits will remain excludible from gross income and are not considered wages of the employee for 2021 and 2022. Thus, participants in dependent care assistance programs are able to continue to contribute the maximum amount to their plans for 2021 and 2022.