Dependent Care FSA - Company Failed Discrimination Testing - W2 Box 10

[drexel88888]

My company increased the amount we can contribute to the Dependent Care FSA to $10,500 mid year.  I changed my election to $10,500 and at the end of the year in December 2021, the company failed the Dependent Care 55% Average Benefit Nondiscrimination Test. 

To fix this, my company added $3,562.04 to my taxable income.  The taxes for $3,562.04 were taken out my last paycheck of 2021 (great Christmas gift from my company).  I can see this amount has been added to my Box 1, 3, 5 in my W2.  However, in box 10 (Dependent Care Benefits) of my 2021 W2, the company still listed $10,499.97.  I believe this is incorrect because box 10 is used by TurboTax to fill out Form 2441 line 12.

What I have done is, manually overridden the calculation and put 10,499.97-3,562.04= $6937.93.

Is there a better way to do this in TurboTax?  Did my company put the wrong amount in my W2 Box 10?

I'm following the instruction found on Form 2441 line 12:

Enter the total amount of dependent care benefits you received in 2021. Amounts you received as an employee should be shown in box 10 of your Form(s) W-2. Don’t include amounts reported as wages in box 1 of Form(s) W-2.

[BillM223]

Could you do me a favor? Could you tell me the numbers on lines 12 through 26 on your 2441? Please confirm that these numbers are the result of your manually override (BTW, where did you put this manual override?).

And at the bottom of your response, please enter "@" and "BILLM223" without the space in between so that I will be notified of your response.

[drexel88888]

Hi BILLM223

These numbers were the result of me manually overriding line 12 of Form 2441.  I go into Forms view of TurboTax and open Form 2441, I right click on the field for line 12 and click override to input what I believe is the correct number $6,938 according to the IRS instructions (Don’t include amounts
reported as wages in box 1 of Form(s) W-2. ).

Form 2441

Line 12:  6,938

Line 13:  blank

Line 14:  0

Line 15: 6,938

Line 16:  22,425

Line 17:  6,938

Line 18:  139,603

Line 19:  98,495

Line 20:  6,938

Line 21:  10,500

Line 22:  0

Line 23:  6,938

Line 24:  0

Line 25:  6,938

Line 26:  0

@BillM223 

[BillM223]

The IRS instructions for the W-2 have not been helpful. To me, the point of Part III on the 2441 is to figure out how much you received in Dependent Care benefits because any qualified expenses spent by you over the $8,000/$16,000 should be allowed to enter the calculation for the Dependent Care credit. With $10,500 in box 10, if you have only one child (so, $8,000), you would have nothing left on line 29 (2441) to be applied to the credit, whereas in fact, this $10,500 overstates your benefit by $3,562.04.

This suggests that the amount in box 10 should be $10,500 less the amount that was added to box 1 (Wages) ($3,562.04). However, when I look at the instructions for box 10 in the W-2 Instructions, it does not cover your situation.

Please understand that the W-2 Instructions are instructions for your employer on how to complete your W-2; the instructions for form 2441 are instructions for you, the taxpayer, on how to complete the 2441. However, you don't seem to be able to follow the 2441 instructions unless they reduce the amount in box 10.

May I assume that when you did the return without the modification, that you had no Dependent Care credit, yet when you make the modification, that you now get a modest Dependent Care credit? If this is true, then this is a matter of some importance to you.

I would first go back to your payroll people and talk to the most experienced accountant there (if any). Ask them if they would issue you a corrected W-2 with the box 10 amount reduced by $3,562.04. If they won't, then when you enter the W-2 and you change the amount in box 10, you run the risk of the IRS writing you a letter, and you will have to be prepared to defend what you did. 

I would not modify the box 10 amount (well, line 12) in Forms mode, because often a modification in Forms mode prevents you from e-filing. Given how backed-up the IRS is with paper returns (some 6 million still remain to be processed from last year), sending in a paper-return means that it will be months and months before your refund comes to you (if any). 

[drexel88888]

Thanks for the detailed write up.

I contacted my company's payroll/HR department and they are saying they are correct to show the $10,500 amount because that is how much was paid out in claims via the Dependent Care Account.  They sent me documentation/example from the IRS that shows if an employee receives more credit than what is allowed by plan, you still put the amount of benefit paid and add back the taxable amount to box 1,3,5 in the W2.  This is exactly what the company did for my W2.

Changing the W2 box 10 myself doesn't seem like a good idea and manually finally a paper return also doesn't sound like a great alternative.

The difference is significant, it is 20% of the taxed amount $3,562.04, a $712 reduction in my federal tax refund.   I believe this is a shortcoming of the TurboTax software that does not allow for this tax situation.  I tried to call the TurboTax help line but was hung up on when I explained the situation after waiting on hold.  Would TurboTax make a change like this during the tax season?  I'm contemplating on trying a different service to file my tax returns that does not have this situation.

Thanks for all your help and insight @BillM223 

[RobertB4444]

The whole point to the credit that your employer paid you is that it is tax free.  They have entered an amount on your W2 as a tax free benefit as well as in your gross compensation.  That is wrong.

You are correct that the TurboTax software has this as a limitation.  Your W2 is wrong and the system isn't designed to handle that.

Your employer gave you $3562 in compensation out of the dependent care account.  That is something that they need to fix.

But @BillM223 is right - if you send in this return without matching it to the numbers on the W2 you will likely see a huge delay and a letter from the IRS.

The best way around this is to paper file the return if your employer absolutely will not adjust the W2.  Attach an explanation that $3562 of the dependent care benefits was included in taxable income.  Then your employer can deal with the letters from the IRS.

[drexel88888 · Accepted solution]

For full disclosure if this helps anyone in the future.

I went to FreeTaxUSA to check if I would have the same situation.

After entering my W2, there is a question that is prompted specifically to ask if the employer set Dependent Care Benefit Plan Limits where I was able to put the specific # that was tax deductible vs what was reported on my W2 box 10.   This was the question - "Enter the maximum benefit amount allowed under your dependent care plan:"

My W2 shows up correctly and my form 2441 line 12 shows up correctly.  I will just file my federal with FreeTaxUSA to end this headache.