Could employee salary-reduction amounts paid through a qualified cafeteria plan count as employer contributions for California's historical employer child-care credit?

Plain-English summary

California Legal Ruling 1993-1 allowed employee salary-reduction amounts in a qualified cafeteria plan to count as employer contributions for California's historical employer child-care credit.

The employee's ability to exclude the amount from gross income did not prevent the employer from treating it as an employer contribution. But the payment qualified for the California credit only to the extent it funded a "qualified care plan" under the California statute.

That limitation mattered because the federal dependent-care exclusion and the California employer credit did not cover exactly the same expenses.

Facts addressed by the ruling

Corporation A maintained an I.R.C. section 125 cafeteria plan. Employees could designate salary-reduction amounts for a qualified dependent-care assistance program under I.R.C. section 129 and receive reimbursement for child and dependent-care expenses.

The issue was whether those employee-designated amounts could be treated as employer contributions when A calculated the California credit.

Why salary reduction still counted as an employer contribution

The ruling stated that, under federal law, amounts designated by an employee and paid by the employer directly to a qualifying cafeteria plan were employer contributions paid or incurred by the employer under section 129.

California section 17131 incorporated the federal sections 125 and 129 income exclusions. Section 23617.5 also defined contributions to include employer reimbursements to employees for qualified care-plan expenses and direct payments to child-care programs or providers.

The FTB therefore concluded that the salary-reduction source of the funds did not disqualify the employer contribution.

The California care-plan test still applied

The ruling's California credit covered contributions to a qualified care plan for a California employee's dependent under age 15. It described the credit as 50% of qualifying costs, limited to $600 per dependent.

The care facility had to be in California and operate under a license when state law required one. An amount could satisfy the federal dependent-care exclusion but still fail these California credit conditions.

Examples of federal and California differences

Care outside California

Payment to a child-care center outside California could qualify for the employee's federal income exclusion but not for the California employer credit.

Dependent over age 12 but under age 15

Payment for a non-disabled dependent in that age range could qualify for the historical California employer credit but not for the employee's federal exclusion described in the ruling.

What this means for you

Employers

Under the ruling's historical framework, a salary-reduction arrangement did not by itself prevent the employer credit. The employer still had to trace the payment to care satisfying the California statute.

Benefits and payroll administrators

Do not assume every amount eligible for a federal cafeteria-plan or DCAP exclusion qualifies for a state employer credit. Location, licensing, dependent age, and the state credit's own definitions mattered.

Accountants and tax professionals

Separate the employee income-exclusion analysis from the employer credit analysis. Confirm whether a current California credit exists and test each payment under the rules for the actual year.

Common questions

Q: Did employee salary reduction prevent the amount from being an employer contribution?

A: No. The ruling treated the employee-designated amount paid through the plan as an employer contribution.

Q: Did every federally excludable DCAP payment qualify for the California credit?

A: No. It also had to satisfy California's qualified-care-plan requirements.

Q: Would care at an out-of-state center qualify?

A: Not for the California credit described in the ruling, even though the payment could qualify for the federal exclusion.

Q: What credit rate and cap did the ruling describe?

A: Fifty percent of qualifying contributions, limited to $600 per dependent under the 1990 amendment discussed by FTB.

Q: Does this establish a current employer credit?

A: No. It explains the statutes in effect in 1993. Current credit availability and plan requirements must be verified.

Citations and references

• Cal. Rev. & Tax. Code §§ 23617.5 and 17131
• I.R.C. §§ 21(b)(2), 125, and 129
• Temp. Treas. Reg. § 1.125-1, Q-6 and A-6

Source

• Landing page: California FTB Legal Rulings
• Official HTML: Legal Ruling 1993-1

Original ruling text

Home

Legal ruling 1993-1

STATE OF CALIFORNIA
Franchise Tax Board - Legal Division
PO Box 1468
Rancho Cordova CA 95812-1468

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April 23, 1993

Control Number: 410:BRL:CL-93-0108

Employer Child Care Program / Contribution Credit Salary Reduction Agreements

Issue

May a taxpayer which maintains a qualified cafeteria plan under Internal Revenue Code §125 that contains a salary reduction arrangement treat the employee designated amounts as "employer contributions" for purposes of computing the Revenue and Taxation Code §23617.5 Employer Child Care Program / Contribution Credit, even though the employee is entitled to exclude such amounts from gross income?

Facts

Corporation A maintains a cafeteria plan under Internal Revenue Code §125 under which employee-participants are entitled to exclude from gross income certain salary reduction amounts. The plan also contains an employee option to designate contributions to a qualified Dependent Care Assistant Program meeting the requirements of Internal Revenue Code §129.A's employees designate various amounts of salary reduction, and are reimbursed by the plan for child and dependent care expenses incurred.

Law and Analysis

Revenue and Taxation Code §23617.5, as amended by SB 2208 (Stats. 1990, Ch. 1347), allows a credit against tax of an amount equal to 50% of the cost paid or incurred by the taxpayer for contributions to a qualified care plan made on behalf of any dependent of the taxpayer’s California employee who is under the age of 15. The 1990 amendment clarified that the amount of the credit is limited to $600 per dependent for contributions to a qualified care plan.

Revenue and Taxation Code §17131, relating to income exclusions of individuals, incorporates Internal Revenue Code §§125 and 129 by reference. Internal Revenue Code §129 allows an exclusion from gross income for amounts "paid or incurred by the employer" for dependent care assistance provided to employees, if the assistance is furnished pursuant to a qualified Dependent Care Assistance Program (DCAP). Internal Revenue Code §125 allows an exclusion from income for certain employee designated contributions to cafeteria plans, including §129 DCAP programs.

Revenue and Taxation Code §23617.5(c)(1) does not define "qualified care plan" but states that the term includes, but is not limited to, [the payment of or provision of] various types of dependent care, provided that the facility offering the care is located in California and operating under the authority of a license when required by state law.

Internal Revenue Code §129(e)(1) defines "dependent care assistance" as the payment of, or provision of those services which if paid for by the employee would be considered employment-related expenses under §21(b)(2).§21(b)(2)(C) specifically includes payments to dependent care centers for the care of specified qualifying individuals.

Revenue and Taxation Code §23617.5(c)(5) defines "contributions" to include employer reimbursements to employees for the employee’s qualified care plan expenses, or direct payment to child care programs or providers, or both.

Under federal law, amounts designated by an employee and paid by the employer directly to a qualifying cafeteria plan are "employer contributions" paid or incurred by the employer under Internal Revenue Code §129.(See Temp. Treas. Reg. §1.125-1 Q-6, A-6.)

Because of the differences in the federal "dependent care assistance" and the state "qualified care plan" provisions, some amounts paid by the employer will qualify for the federal exclusion, but not the California credit, and vice versa.

For example, payments made to a child care center outside California would qualify for the federal exclusion but not the California credit. Payments made on behalf of a non-disabled dependent over the age of 12 but under age 15 would qualify for the California employer credit but not the employee exclusion.

Holding

For purposes of computing the credit allowable under Revenue and Taxation Code §23617.5, "employer contributions" can include amounts designated by employees in salary reduction agreements and excludable by the employees from gross income, but only to the extent that those amounts are used for qualifying dependent care plans under Revenue and Taxation Code §23617.5.

Drafting Information

The principal author of this notice is Bruce R. Langston of the Franchise Tax Board Legal Division. For further information regarding this notice, contact Mr. Langston at the Franchise Tax Board Legal Division, P.O. Box 1468, Sacramento, CA 95812-1468.

NOTE: ((---)) = Indicates obsolete information.

Last updated: 09/24/2025