Dependent Care 55% Average Benefits Test

[Guest FAQ]

In performing the 55% average benefits test for a dependent care plan under Code §129(d)(8), are employees who terminate during the year counted as employees? Or is the test done by looking only at employees at the end of the year?

The Code refers to "average benefits provided to employees" who are highly compensated and nonhighly compensated (HCEs and NHCEs). If there are 10 NHCEs and 2 of them participate by contributing $5,000 each, the average benefit provided to the NHCEs is $1,000 per employee ($10,000/10 NHCEs).

What if one of the NHCEs leaves halfway through the year? If he is not participating, does the average NHCE benefit become $10,000/9 NHCEs = $1,111? If he is participating and leaves, does the average benefit become $5,000/9 employees = $555? Or is the employee still counted (along with the $2,500 of benefits he received before terminating) - i.e. $7,500/10 employees = $750?

My haunch is that the IRS would include any benefits provided to the employee in the numerator, and that the employee would be included in the denominator. However, I have found nothing that supports this (or any other) view. Thanks in advance for any thoughts on this!

[g8r]

I'm also not aware of any guidance on this issue (but that's not a surprise).

My personal opinion is that the person counts. My reasoning is the situation where the person actually did participate in the DCAP. It's hard to argue that the amount put into the plan is totally disregarded b/c the person terminated employment. If you agree with that, then to be consistent, it would seem that a terminee is counted regardless of whether any benefit is elected under the plan.

But, due to the lack of guidance, any reasonable interpretation of the rules works.