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Failed DCAP 55% Test at Year-End- Does W-2 Box 10 need to be modified?


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We tested our cafeteria plan late in the year and found we failed the DCAP 55% test. We have just one pay period left in the year, and we're working with our payroll vendor (ADP WFN) to create an imputed income code to include the amounts that caused the plan to fail in HCEs' gross income. However, does Box 10 of the employee's W-2's need to be modified as well? We have been scrambling to find assistance with how to make the corrections, but we haven't found any guidance on how this would actually appear for employees on their W-2's. 

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@Johanna Box 10 is only going include the amount that remained tax-advantaged dependent care benefits.  That means dependent care FSA amounts elected by HCEs that are in excess of the reduced limit (caused by the 55% average benefits test failure) are not included in Box 10.  Those excess amount are recharacterized as taxable income and reported as such (Boxes 1, 3, 5).

For example, if an HCE's $5k election is reduced to $3,500, the Box 10 amount will show only the $3,500 of pre-tax contributions that remained.  The HCE will have $1,500 in additional taxable income in Boxes 1, 3, and 5 that he or she otherwise would not have.

IRS Form W-2 Instructions:


Box 10—Dependent care benefits (not applicable to Forms W-2AS, W-2CM, W-2GU, or W-2VI).

Show the total dependent care benefits under a dependent care assistance program (section 129) paid or incurred by you for your employee. Include the fair market value (FMV) of care in a daycare facility provided or sponsored by you for your employee and amounts paid or incurred for dependent care assistance in a section 125 (cafeteria) plan. Report all amounts paid or incurred (regardless of any employee forfeitures), including those in excess of the $5,000 exclusion. This may include (a) the FMV of benefits provided in kind by the employer, (b) an amount paid directly to a daycare facility by the employer or reimbursed to the employee to subsidize the benefit, or (c) benefits from the pre-tax contributions made by the employee under a section 125 dependent care flexible spending account. Include any amounts over $5,000 in boxes 1, 3, and 5. For more information, see Pub. 15-B.

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