Adoption Assistance Programs Under Section 137
An employer adoption assistance program can reimburse qualified adoption expenses on a tax-favored basis. The rules on the written plan, the dollar limit, and payroll tax treatment are specific.
How Employer Adoption Assistance Works
Section 137 lets an employee exclude employer-provided adoption help from income tax withholding, within limits, when it is paid under a written program.
What It Covers
Qualified adoption expenses such as adoption fees, court costs, attorney fees, and travel connected to the adoption. The expenses must relate to the adoption of an eligible child. Employers should define in the written plan which expenses are reimbursable and what proof is required. A tax adviser can confirm whether unusual expenses, such as certain travel costs, qualify.
2026 Dollar Limit
The maximum exclusion for 2026 is $17,670 per child under Rev. Proc. 2025-32. The limit applies to the child, not to the year of each payment. Because the limit is per child, track total assistance across years for each employee. Employers should confirm the current figure each year with a tax adviser, since the limit is adjusted for inflation.
Special Needs Children
For a child with special needs, the full limit may be excluded whether or not the actual expenses reach that amount. The special needs determination follows specific rules, often involving state findings. Employers should ask the employee for the supporting documentation and have a tax adviser confirm how it is applied.
Income Phase-Out
The exclusion begins to phase out for employees whose modified adjusted gross income is above $265,080 in 2026. This test applies to the employee’s own tax situation, so the employer generally cannot determine it. Employees should talk to a tax adviser about how the phase-out affects them.
Written Plan Required
The assistance must be provided under a separate written plan that does not favor highly compensated employees and is reasonably communicated to employees. A written plan should describe who is eligible, what is covered, how to claim and any caps. Employers should have counsel or a tax adviser review it before it is offered.
Owner Limit
No more than 5 percent of the amounts paid in a year may go to shareholders or owners who each own more than 5 percent of the business. Employers with owner-employees should track how much goes to these individuals. A tax adviser can confirm whether the plan stays within the limit before payments are made.
Payroll Tax and Reporting Treatment
The exclusion is narrower than many employers assume. Payroll taxes still apply to the benefit.
Income Tax Withholding
Qualified adoption assistance is not subject to federal income tax withholding when the program and expenses meet the Section 137 rules. Payroll should code qualifying payments correctly and keep documentation showing why they qualify. If a payment does not meet the rules, it may need to be treated as regular taxable wages.
Social Security, Medicare, and FUTA
The assistance is still subject to Social Security, Medicare, and FUTA taxes. This surprises employers who expect a full payroll exclusion. Payroll should include these amounts in the wages used for those taxes. Employers should confirm the setup with their payroll provider so the first reimbursement is processed correctly.
W-2 Reporting
Report adoption assistance in W-2 box 12 with code T, including amounts above the exclusion limit. Work with your payroll provider to test that the amounts appear in the right box and match the records. Reconcile year-end totals against reimbursement files before forms are issued.
Employee Tax Forms
Employees report the exclusion on Form 8839 with their return. They cannot also claim the adoption credit for the same expenses. Employees should keep the records they receive and consult a tax adviser about their own return. Employers should avoid giving personal tax advice and point employees to qualified professionals.
Documentation
Keep receipts, adoption records, and the written plan on file. Payments should be tied to documented expenses, not paid as a flat bonus. A consistent file for each employee helps support the exclusion if it is reviewed. Retain the claim form, receipts and approval notes, and set a retention period in your written plan.
Other Benefits Rules
Adoption assistance is separate from a cafeteria plan election and from dependent care benefits. Our related guides explain how each is administered. Because separate rules apply to each benefit, avoid mixing them in plan documents or payroll codes. Ask a tax adviser if an employee may be using more than one program for the same expense.
Design Choices for Employers
A program can be as simple as a reimbursement policy or part of a broader family-building package. A few choices drive cost and administration.
Per-Child Cap
Set a company cap at or below the federal limit. Many employers choose a lower amount to control cost. A cap makes budgeting easier and keeps the plan within the federal limit. Write it into the plan document, and tell employees whether it applies per child or per year.
Eligibility
Define eligibility by class of employee in a way that does not favor highly compensated employees. Part-time and full-time rules should be written down. Define classes by objective factors such as hours or length of service, and apply them the same way every time. Have a tax adviser confirm the classes do not favor highly compensated employees.
Claims Process
Decide who administers reimbursement, what proof is required, and how long employees have to submit claims after finalization. A clear process includes the claim form, deadline, review steps and payment method. Communicate it in the plan description and keep a record of each decision.
Related Family Benefits
Many employers pair adoption assistance with parental leave, fertility benefits, and dependent care. Review how each interacts with your leave policies. Review each benefit’s eligibility, timing and tax treatment so employees understand how they fit together. A single benefits summary that explains the options can reduce questions during a life event.
Adoption Assistance Questions
What is the 2026 adoption assistance limit?
$17,670 per child under Rev. Proc. 2025-32.
When does the income phase-out begin?
For 2026 the exclusion begins to phase out when modified adjusted gross income exceeds $265,080.
Is adoption assistance subject to payroll taxes?
It is subject to Social Security, Medicare, and FUTA taxes, but not federal income tax withholding when properly excluded.
How is it reported on the W-2?
In box 12 with code T.
Does an employer need a written plan?
Yes. A separate written plan that does not favor highly compensated employees and is communicated to employees is required.
Is there a limit on benefits to owners?
Yes. No more than 5 percent of amounts paid in a year may go to owners who each hold more than 5 percent.
Can an employee also claim the adoption credit?
Not for the same expenses. Employees should review Form 8839 instructions with their tax preparer.
Does a special needs adoption change the limit?
The full limit may be excluded for a child with special needs, regardless of actual expenses.
Is this legal advice?
No. This page is general information, not legal advice. Rules change and facts differ, so confirm your situation with your attorney or tax advisor.
Related Guides
Related reading: Section 125 Cafeteria Plans · Dependent Care FSA Rules · Student Loan Repayment Under Section 127 · Non-Discrimination Testing · Dependent Care and Family Support
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Laws and rules referenced
26 U.S.C. § 137 — Adoption assistance programs.
This page is general information, not legal or tax advice. Rules change and facts matter, so confirm your situation with counsel or a qualified advisor.
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