With 2 unmarried parents living together and sharing custody, you can't use the "special rules for children of divorced or separated parents."
That means that one person claims the child as a dependent, and the other parent should simply delete the child from their return completely. Don't even list their name.
The problem is that in the child's interview, you are asked "do you have an agreement to share custody." This only applies to a court custody order for divorced or separated parents, not a verbal agreement between unmarried partners. If parent A is going to claim the child, parent A must answer "no" to the agreement question in order to qualify for head of household and the dependent care credit. Parent B should not list the child at all, because if parent B answers "yes", they may claim the wrong benefits, and if they answer "no" they will conflict with parent A.
In your case, parent A has a dependent care FSA account but parent B is claiming the child as a dependent. Parent A will answer the questions about the FSA account, no I do not have qualifying expenses. The FSA amount is added back to the person's taxable income, but there is no additional penalty. Parent B may use the child's expenses to qualify for the child and dependent care credit, since the expenses were paid with taxable money.
Incidentally, to withdraw any money from the FSA, parent A must certify these are qualifying expenses. Since they are not, parent A can't get any money out unless parent A lies on the reimbursement form. Since the compliance burden for FSAs is on the employer, not the employee (or the employer's hired benefit administrator), the taxpayer won't get in trouble if the employer is audited, but the employer could get in trouble, and this could really mess up your relationship. If you can't cancel the FSA, it may be better for parent A to claim the child and use the FSA even though parent B loses the benefit of HOH status.
