A tax-sheltered flexible spending account is also known as an Internal Revenue Code Section 125 cafeteria plan. It allows employees to pay for dependant care, medical, and dental expenses with pretax dollars. The result is that employees get more money in their pocket on payday and have less income to report to the IRS at the end of the year. The company sets it up through the payroll system and all the employee does is keep track of receipts. It's an easy way for them to lower their taxable income.

There is a maximum deduction set each year, and a cap on salary eligibility also. The IRS Web site at www.irs.gov has instructions for setting up a plan. Your accountant or payroll company can assist you, too.

Employees with childcare expenses are eligible for the tax credit provided they receive a tax identification number from the daycare operation, preschool facility, nanny, or babysitter who provides the care. Daycare and preschool businesses should give you a federal tax ID number. Ask individual child-care providers for their social security number.

If a daycare provider is paid with cash, they may not give you their social security number so that they don't have to claim the income. Without their social security number, you cannot participate in a flexible spending account plan. You can make an attempt to get it by giving them a W-9 form from the IRS Web site.

Children under the age of thirteen are eligible dependents under a plan. Paid care for older children qualifies only if the child is physically or mentally disabled or unable to care for himself for another reason. If there are two parents in the household, both must work in order for one of them to claim the credit. Workers caring for elderly parents can receive the tax credit for adult dependent-care assistance. Again, a taxpayer ID number is required.

Eligible medical expenses for a flexible spending account plan include but are not limited to insurance copays, prescription lenses, uncovered dental expenses, and out-of-pocket prescription costs. Over — the-counter medications do not qualify.

Here is how the plan works: At the beginning of the plan year, employees are asked to elect how much they are going to spend on qualified expenses. Employees should be warned that they could lose money if their receipts do not equal the amount elected. Therefore, it is important that they do not overestimate. Monthly expenses are deducted from wages up front. Once a receipt is submitted, the employee receives a nontaxable reimbursement. If there were no expenses and no receipt, there is no reimbursement.