As a refresher, beginning with the 2026 tax year, the maximum annual election for dependent care FSAs (often referred to as DCAPs) increased from $5,000 to $7,500 (or from $2,500 to $3,750 if married filing separately). This is an optional increase and employers are not required to utilize the increased amount.
While the increase is welcomed by employees, employers need to be mindful of Section 129 nondiscrimination rules that apply to DCAPs. DCAPs often fail nondiscrimination testing because highly compensated employees tend to use the accounts more frequently and at higher elections than non-highly compensated employees. In such cases, increasing the limit may increase the chances that the plan will fail nondiscrimination testing. If the current DCAP enjoys full participation by both highly compensated employees and non-highly compensated employees, then increasing the limit may not be an issue. However, plans that have had trouble passing nondiscrimination testing in the past likely would continue to have issues passing testing with the increased limit.
Noncalendar year DCAPs face additional considerations to implement the increased limit. The DCAP limits run on a calendar year basis, regardless of plan year. This has not been a problem for noncalendar year plans in the past since the limit remained $5,000 for many years. If an employer wishes to implement the increase, they can do so now and do not have to wait until the month in which the new plan year begins later in 2026. Instead, the increase is allowed as of January 1, 2026. Employers should work closely with their vendor to ensure employees who choose to increase their election pro-rate the amount correctly. Typically, a vendor will pro-rate the increased election based on the number of months remaining in the plan year to prevent excess contributions in the calendar year.
Vendors likely reached out to their clients in late 2025 to determine if employers wish to make increases for 2026. Employers who have not made a decision will want to reach out to the vendor to ensure the maximum limits are handled appropriately. If an employer opts to allow the increase, they should work closely with their DCAP vendor to amend plan documents to reflect the increased limit, and to communicate the change to employees.