A Simple Guide to Offering a Dependent Care Assistance Plan (DCAP) for Small Business Owners

What Is a DCAP, and How Can You Set It Up?

A Dependent Care Assistance Plan (DCAP) is a benefit program that lets employees (and sometimes owners) pay for dependent care expenses—like child care or care for a disabled spouse—with pre-tax dollars through a simple reimbursement process. It’s governed by Section 129 of the Internal Revenue Code and can be part of a Section 125 cafeteria plan (a broader benefits plan). Think of it as a way to help cover daycare or similar costs tax-free, up to a specific limit.   

Hiring Help: You can hire a benefits consultant, HR firm, or payroll provider (like Brown & Brown, mentioned in your resources) to design and manage a DCAP for you. They’ll handle the legal details, forms, and compliance. This is a great option if you’re busy or want expert support.  

Doing It Yourself: You don’t need a pro! As a small business owner—even a sole proprietor—you can set up a basic DCAP on your own. It takes some paperwork and recordkeeping, but it’s doable with a little effort. This guide will show you how.  

Tax Benefits for Employers and Employees

A DCAP offers tax savings for both you and your employees:  

For Employees:
They can contribute up to $5,000 annually ($2,500 if married filing separately) with pre-tax dollars through payroll deductions. This reduces their taxable income, meaning they pay less in federal income tax, Social Security, and Medicare taxes.  

Example: If Raul, an employee, earns $50,000 and contributes $5,000 to a DCAP, they are lowering their taxable income to $45,000, saving hundreds in taxes depending on their specific tax bracket.  

For Employers (Including Sole Proprietors): 
If you fund the DCAP (optional), your contributions are tax-deductible as a business expense.  

Employee pre-tax contributions reduce their wages subject to payroll taxes (Social Security and Medicare), saving you about 7.65% on those amounts.  

Example: If an employee contributes $5,000 pre-tax, you save roughly $382.50 in payroll taxes ($5,000 × 7.65%).  

Sole proprietors can participate, too, but you can’t use pre-tax salary reductions—your tax benefit comes from excluding the reimbursed amount from your income (up to the limit).  

Limits and Who’s Eligible  

Contribution Limits: 
$5,000 per year for single employees or married couples filing jointly.  

$2,500 per year for married employees filing separately.  

Regardless of filing status, for married couples, the limit is shared—so if both spouses have DCAPs, their combined total can’t exceed $5,000.  

Example: Tamika and John are married and filing jointly. If Tamika is the only one with this benefit, they can deduct $5,000. However, if John’s company offers $2,000, now they can only deduct $3,000 more as to not exceed the $5,000 joint filing contribution limit. 

The limit also can’t exceed the employee’s (or their spouse’s) earned income for the year.  

Eligible Dependents: 
Children under age 13 who you claim as a dependent.  

A spouse or dependent (of any age) who is physically or mentally incapable of self-care and lives with you for more than half the year.  

Eligible Employees: 
Any common-law employee (W-2 workers) can participate.  

Sole proprietors, partners, or S-corp owners (>2% shareholders) can join, but they can’t use pre-tax salary reductions—reimbursements still reduce taxable income.  

Eligible Expenses: 
Daycare, preschool, before/after-school care, day camps (not overnight camps), babysitters (unless they’re your spouse, child under 19, or dependent), and care for a disabled spouse or dependent.  

It must be for care that lets you (and your spouse, if married) work or look for work. 

How to Set Up a DCAP Yourself  

Here’s a step-by-step guide to DIY a DCAP:   

1. Write a Plan Document:
   You need a written plan that meets IRS rules (Section 129). It should state:  

   • Who’s eligible (e.g., all employees, including yourself if self-employed).  

   • What expenses qualify (see above).  

   • The maximum contribution ($5,000 or $2,500, depending on filing status).  

   • How reimbursements work (e.g., submit receipts, get paid back).  

   • The plan year (usually a calendar year, like January 1–December 31).  

   Keep it simple! Below is an example.  

2. Tell Employees About It:
   Give them a short summary of the plan and how to sign up. For example: “Contribute pre-tax dollars via payroll to cover childcare—up to $5,000!” Include a form for them to elect an amount.  

3. Set Up Contributions:
   For W-2 employees: Adjust payroll to deduct their chosen amount pre-tax (use a payroll service or software if you don’t do it manually).  

   For sole proprietors: You’ll fund it from your business income, not pre-tax.  

4. Handle Reimbursements: 
   Employees submit receipts or a form (example below) proving the expense.  

   You reimburse them from their DCAP account (a separate bookkeeping entry—not a bank account).  

   Keep records of all contributions and reimbursements.  

5. Optional: Use a Debit Card: 
   Offer a DCAP debit card through a provider (like a bank or payroll company).  

   Employees pay care providers directly with the card.  

   You load funds after they submit proof of a past expense (e.g., a $500 daycare bill). Then, they can use that $500 on the card for future care from the same provider. The IRS calls this “rolling funding”—it ensures no advances.  

Example Plan Document

ABC Small Business Dependent Care Assistance Plan Effective January 1, 2025 

Purpose: To provide tax-free dependent care benefits under IRC Section 129.  

Eligibility: All employees (including the owner, if self-employed).  

Eligible Expenses: Care for children under 13 or disabled dependents to enable work (e.g., daycare, babysitting).  

Contribution Limit: Up to $5,000 per year ($2,500 if married filing separately), not to exceed earned income.  

How It Works: Employees elect an annual amount. W-2 employees use pre-tax payroll deductions; the owner uses business funds. Submit receipts for reimbursement within 90 days after the plan year ends. Unused funds are forfeited.  

Plan Year: January 1–December 31.  

Questions? Contact [Your Name] at [Your Email]. 

Example Reimbursement Form

DCAP Reimbursement Request  

Employee Name: ___________________________  

Date of Request: __________________________  

Expense Details: __________________________ 

Provider Name: _________________________  

Date of Service: _________________________  

Amount: $______________________________  

Description (e.g., daycare for 6-year-old): _________________________  

Attach receipt or provider statement.  

Signature: _______________________________  

Submit to: [Your Business Name/Address/Email].  

Reporting for W-2 Employees

Employer Reporting: 
On each employee’s Form W-2, report the total DCAP contributions in Box 10 (“Dependent care benefits”).  

If contributions exceed $5,000 (or $2,500 for married filing separately), the excess is included as taxable income in Box 1 (wages), Box 3 (Social Security wages), and Box 5 (Medicare wages).   

Employee Reporting: 
Employees file IRS Form 2441 with their tax return to show the DCAP amount and care provider details (name, address, Tax ID). This proves the benefits are tax-free and up to the limit.  

Final Tips

Keep it fair: It is important to note that employers are not allowed to favor officers, owners, highly compensated (over $135,000 in 2025, per IRS rules), or their dependents as defined by the IRS. 

Double-check expenses: Only reimburse costs tied to work-related care for qualifying dependents.  

Ask for help if needed: Consult a tax pro or use IRS Publication 15-B (linked in your question) for details.  

You’ve got this! A DCAP is a win-win—your employees save on taxes, and you save on payroll costs (or your own taxes as a sole proprietor). Start small, and tweak it as you go. Any questions? Just let us know!