In the era of COVID, many parents find themselves working from home with children afoot because schools and daycare providers are closed. Many, if not most, schools are operating remotely in a virtual-learning environment. While virtual learning is less optimal than in-person learning, it does provide important structure for students. Importantly, virtual learning often also provides needed structure for parents who are balancing some measure of homeschooling while simultaneously needing to meet the demands of full-time work.
Enter a host of new virtual daycare opportunities and virtual camp experiences for children. This typically comes into play for elementary school age children whose parents engage virtual daycare or day camps for their children so that they can focus on work. With the advent of virtual daycare, camps, and classes, there has been an onslaught of claims for these services under Dependent Care FSA plans. With that, the issue of eligibility must be addressed.
Dependent care expenses must meet specific criteria in order to be considered eligible. Care must be provided for a qualifying individual (generally a child under the age of 13) and it must be incurred such that the employee (and the employee’s spouse) can be gainfully employed. These underlying requirements are clear and are not at issue in this discussion. There are three additional criteria which relate to the nature of the care provided that are relevant here:
- Primarily Custodial in Nature: This requirement clarifies the ineligibility of any expenses which are primarily educational in nature. This exclusion of directly educational expenses as well as those which may have an element of care, but which remain primarily educational (such as tutoring or music lessons) has been a long-standing and clear requirement in the IRS regulations.
- Ensure “Well-Being and Protection": The IRS guidance is clear that the primary function of the care must be to ensure well-being and protection of the child. In the context of virtual care, it is important to understand the primary vs. secondary nature of the purpose of the care.
- Other Benefits Must be Incidental to and Inseparably Part of Care: The IRS recognizes that in the regular provision of dependent care, some other benefits may inure to the child or the family. For example, a babysitter may provide some educational function by reading to a child. A daycare program may provide lunch for a child. Or an afterschool program may provide some instructional services. However, each of these “extra” benefits are considered incidental to and not the primary purpose of the care.
An Example of Reality
Let’s take the example of a parent working at home and who has enrolled their elementary age child in a virtual day camp experience. It is clear that the existence of the virtual day camp experience will allow the parent to better focus on working. It can also be assumed that someone else is watching over the child’s immediate activities and, presumably, would alert the parent if there are any problems.
The Argument FOR Virtual Daycare Eligibility
It could be argued that this scenario meets the criteria set out for dependent care eligibility and that the primary purpose could be deemed as ensuring the child’s well-being and protection. Proponents of this viewpoint argue that the vigilance provided by an in-person provider is not significantly different than when such a service is provided via a video connection with two-way audio and visual functionality. The basic argument here is that the nature of the oversight of the child is not changed by the virtual nature of the interaction.
The Argument AGAINST Virtual Daycare Eligibility
The more conservative argument would acknowledge that a virtual care could not ever be considered primarily custodial in nature nor for the primary purpose of the well-being and protection of the child since the very nature of custody and protection implies physical presence. Virtual providers might be able to keep the child engaged and occupied for the convenience of the parent, but it is difficult to make the argument that they would be able to protect and ensure the well-being of the child beyond maintaining web-based vigilance. While a virtual provider might be able to alert a parent if the child is in danger, it is still the parent who must act to protect the child. This calls into play the third test of the inseparability of “other benefits” (in this case the benefit of keeping the child otherwise engaged). In effect, the parent is still the primary provider of well-being and protection, and the parent retains the responsibility of primary custody of the child.
What are FSA Administrators Doing?
To say there is a lack of consistency on how FSA administrators are addressing these claims is an understatement. Many administrators are taking the more lax interpretation given the unusual circumstances of COVID. Most proffer an admittedly weak argument for eligibility with a strong argument for reason in the face of COVID realities for parents. In further support of this opinion, these administrators are relying on participants “attesting” that the expense meets all of the IRS criteria for eligibility. To this, we would suggest that it is the administrator’s job to affirm eligibility of reimbursements and to keep the plan compliant.
We Agree, It Should be Eligible
We agree that, in the face of COVID realities, virtual daycare expenses SHOULD be considered eligible under dependent care FSA plans. It is reasonable. It is logical. These services really do help parents focus on work. The fact is that current IRS guidance does not properly contemplate the realities faced by parents working from home while schools are closed with elementary age children needing to log on to the internet for class. The regulations were written at time when Zoom didn’t exist and when virtual services of all kinds (daycare and otherwise) would have been seen as a Jetson’s era reality. In short, the regulations we have simply don’t recognize the reality we are living in.
But It’s Not
That said, the fact is that according to the IRS guidelines that we currently have, virtual dependent care expenses simply don’t meet the standards that are outlined for eligibility. Wishing it otherwise, doesn’t change the fact. While we can hope that the IRS will offer some updated guidance on this issue, they have yet to do so. As unpopular as it is, without explicit guidance from the IRS, we believe it is better to err on the side of caution and consider virtual daycare and virtual day camps as ineligible expenses.