From a tax perspective, any common-law employee of the employer can participate in the employer’s DCAP. In addition, self-employed individuals are technically able to participate in a DCAP, but they are not permitted to participate in an employer’s Section 125 cafeteria plan. In other words, self-employed individuals (such as partners, sole-proprietors, and more than 2% shareholders in a Subchapter S corporation) can receive employer contributions to a DCAP, but cannot elect to have pre-tax salary reductions in order to contribute to a DCAP. Permitting self-employed individuals to participate in a DCAP with employees who are eligible to contribute on a pre-tax basis requires an explanation of the separate funding methods in the document that establishes the DCAP.
Employers can further limit eligibility to participate in a DCAP beyond simply being a common law employee. Employers often limit eligibility to participate in a DCAP to full-time employees. If employers would like to open up participation in the DCAP to employees beyond those who work enough hours to be considered full-time, they should be sure that these employees are eligible to participate in the employer’s cafeteria plan so that they will be able to make contributions through pre-tax salary reductions.