What Happens If You Exceed The Flexible Spending Account Contribution Limit?

If you exceed your flexible spending account contribution limit, you have to add the excess to your taxable income when you fill out your Form 1040.

 For example, a DCFSA (Dependent Care Flexible Spending Account) allows you to be reimbursed on a pre-tax basis for childcare or adult dependent care expenses for qualified dependents that are necessary to allow you or your spouse to work, look for work (with income during the year), or your spouse to attend school full-time. You (and your spouse if you are married) must have earned income during the year, however if your spouse attends school full-time he or she does not need to have earned income. Under Internal Revenue Code section 129 (see sections 129(a)(2)(A) and 129(b)(1)), the maximum amount that can be elected for a DCFSA is limited to the lesser of:

• $5,000 for single individuals or married couples filing joint returns;
• $2,500 for married couples filing separate returns,
• the employee's earned income (if less than $5,000/$2,500) or
• the spouse's earned income (if less than $5,000/$2,500). 

So if a couple each has $5,000 withheld at work for a DCFSA, it's no problem unless they happen to be married.  An unmarried couple has a combined DCFSA limit of $10,000 ($5,000 x 2).  If they happen to be married, however, their combined limit is $5,000.  The excess of $5,000 must be added back to their taxable income at tax time. 

When they prepare their Federal taxes, they will need to complete Form 2441 "Child and Dependent Care Expenses" (attached to Form 1040), and add the amount in excess of $5000 back into your income.

What Is Material Participation from an Income Tax Standpoint?

JC Leahy

The the question of material participation is important.  If you have income (or loss) from an activity and did not materially participate, the income is generally classified as "passive income," rather than "earned income."   Having passive income or loss can have all sorts of income tax ramifications.  For example, we saw in our last article on the Earned Income Tax Credit (EITC) that having passive income can bar you from qualifying for the EITC.

The IRS gives us this definition of material participation:

To determine material participation in an activity, the taxpayer must meet ONE of the following:

1.____ Does taxpayer and/or spouse work more than 500 hours a year in the business?

2.____ Does taxpayer do most of the work?  Even if taxpayer does not meet 500 hour test, but his participation is the only activity in the business,  he materially participates.  Example:  sole proprietor with no employees.

3.____ Does taxpayer work more than l00 hours and no one (including non-owners or employees) works more hours?    Example:  If owner puts in l75 hours a year and an employee works 190 hours a year, taxpayer would not meet material participation test.



 4.____ Does taxpayer have several passive activities in which he participates between 100-500 hours each, and the total time is more than  500 hours?  The following activities should not be included in the above test: rental activities: activities involving portfolio or investment income, and activities in which the taxpayer does most of the work.

5.____ Did taxpayer materially participate in activity for any 5 out of l0 preceding years (need not be consecutive)?  Example:  taxpayer who retired and his children now run business, but he stills owns part of partnership.

6.____ Did taxpayer materially participate in a personal service activity for any 3 prior years (need not be consecutive)?  Personal service activity includes fields of health, law, engineering, architecture, accounting, actuarial science, performing arts and consulting.

7.____ Do the facts and circumstances indicate taxpayer is materially participating?  Test does not apply unless taxpayer worked more than 100 hours a year.  Furthermore, it does not apply if:

    any person, other than the taxpayer, received compensation for managing the activity; or,
    if any person spent more hours than taxpayer managing the activity.

REMINDER:  Limited partners under IRC § 469(h)(2) are generally passive.  The exceptions to the limited partner rule are tests 1, 5 and 6 above.   If taxpayer holds both a general and limited partner interest, he will have all seven tests available.

If the answer to any of the above questions is YES the taxpayer meets the material participation standard.  Losses or income should not be reflected on Form 8582, and the taxpayer may generally deduct in full the amount of the loss in the current year.  If the taxpayer materially participated, losses or income are reflected on the return as non-passive.

If the answer is NO to all seven tests, the material participation standard is not met, and losses are passive.

Reminder:  If the taxpayer does not materially participate, credits arising from the business are generally passive.  In the absence of passive income, a passive activity credit is nondeductible in the current year.

Who can claim the Earned Income Credit (EITC) ?

2014 Tax Year

Earned Income and adjusted gross income (AGI) must each be less than:

   $46,997 ($52,427 married filing jointly) with three or more qualifying children
    $43,756 ($49,186 married filing jointly) with two qualifying children
    $38,511 ($43,941 married filing jointly) with one qualifying child
    $14,590 ($20,020 married filing jointly) with no qualifying children




Definition of "Qualifying Child":
A qualifying child is your:
 - Son
 - Daughter
 - Adopted child
 - Grandchild
 - Stepchild
 - Eligible foster child (see below)
 - Brother, sister, stepbrother,
  stepsister, niece, or nephew

At the end of the year a qualifying child must be:
 - Under age 19, or
 - Under age 24 and a full-time student, or
 - Any age and permanently and totally disabled

Also, the child must have:
 - Lived with you in the U.S. for more than
  6 months during the year, or
 - Died during the year but lived with you in the U.S.
  while alive during the tax year in question

- A qualifying child must be younger than the person claiming the child.
- A qualifying child must have a social security number unless he was born and died during the tax year.
-- A qualifying child must not be married and filing a joint tax return, unless the joint tax return is filed for the sole purpose of requesting a refund.

- A person is permanently and totally disabled if -
(1) he or she cannot engage in any substantial gainful activity because of a physical or mental condition, AND
(2) a doctor

Please notice that a "qualifying child" DOES NOT have to be your dependent. 
       
Tax Year 2014 Maximum Credit:
    $6,143 with three or more qualifying children
    $5,460 with two qualifying children
    $3,305 with one qualifying child
    $496 with no qualifying children

Important wrinkle in the EITC workup: Investment (portfolio and passive) income must be $3,350 or less for the year or you don't qualify..

If you meet this income eligibility you should go to go to the Internal Revenue Service Web site at www. Irs.gov  or contact your tax advisor to see if you meet the other federal criteria. Maryland taxpayers who meet all of the federal requirements may be eligible for a Maryland credit up to half of the federal EITC but not greater than the state income tax. Additionally, certain employees also may qualify for a refundable Maryland credit, or a local EITC.

If you need a tax advisor, consider TaxHelpWhenYouNeedIt.com, located in Silver Spring, Maryland.  We can meet with you in a private, confidential setting and spend as much time as needed to get it right as you make your income tax filings. And we're here for you throughout the year if you later have questions or problems.  Our phone number is 301-537-5365

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