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New 125 Plan Election Change Addresses Key ACA Concern
By: Jason Lacey

Employers considering the look-back measurement method to identify full-time employees for purposes of the ACA’s employer shared responsibility mandate have expressed concern about the impact on employees who are treated as full-time for a stability period but experience a reduction in actual hours of service.

Locked-In Status. Employers recognize that these employees may prefer to drop employer-sponsored coverage upon the reduction in hours. But employers that want to avoid penalty exposure under the ACA must continue to make these employees eligible for coverage, because they are recognized as full-time. And because there is no loss of eligibility, the employees cannot make a voluntary decision to drop coverage in the middle of the year. There is no change in status that will support an election change under the existing 125 plan regulations. The employees are locked-in.

New Election Change. A recent notice from the IRS provides important relief from this problem by adding a new election-change event to the cafeteria-plan rules. An employee can now make a mid-year election to revoke health plan coverage (not including health FSA coverage) upon a reduction in hours of service, if the following conditions are satisfied:

  1. The employee has been in a full-time position and changes to a position that is reasonably expected to average less than 30 hours of service per week, even if that change does not result in a loss of health plan eligibility.
  2. The employee represents to the employer that the employee      Continue Reading...
IRS Clarifies Impact of Health FSA Carryover on HSA Eligibility
By: Jason Lacey

An internal IRS memorandum has provided much-needed clarification on the interaction between the new $500 carryover rule for health FSA plans and eligibility to make contributions to a health savings account (HSA). The conclusions in the memo are generally favorable, but employers wanting to both offer the carryover rule in a health FSA and allow employees to be HSA-eligible will need to carefully design their health FSA plans to take advantage.

Background. In guidance issued last year, the IRS provided limited relief from the use-it-or-lose-it rule that applies to health FSA plans by allowing for a carryover of up to $500 of unused amounts each year. (See my post here.) Among the open questions was how this carryover would affect an individual's eligibility to make HSA contributions and what steps, if any, could be taken to ensure an individual would be HSA-eligible if the individual had a carryover amount. In general, to be HSA-eligible, an individual cannot have any low-deductible health coverage, including coverage under a general-purpose health FSA.

Carryover Affects HSA Eligibility for Entire Year. In this recent memorandum, the IRS confirmed that an individual who has a carryover amount in a general-purpose health FSA is ineligible to contribute to an HSA for the entire carryover year, even after the individual exhausts the balance in the health FSA. For example, if at the end of 2014 an individual has $400 remaining in a general-purpose health FSA and that amount carries over to a general purpose health FSA for 2015, the individual will      Continue Reading...

IRS Modifies Health FSA Use-It-or-Lose-It Rule
By: Jason Lacey

In new guidance issued late last week (here), the IRS tackled a long-standing issue with cafeteria plans: the requirement that all dollars be used by the end of the plan year or be forfeited. Employees can now be allowed to carryover up to $500 remaining in a health FSA account at the end of the year and use it at any time during the following year. But there are some conditions and limitations, and it's not clear that this approach will be ideal for all plans. Here's what you need to know.

Optional. Employers are not required to add the carryover option to their health FSA plans. But if they do want to add the option, they must timely amend their plans and make sure they meet the other conditions for offering the carryover. Also, employers are not required to allow carryover of the full $500. They could specify a lower carryover amount.

Relationship to $2,500 Cap. Amounts carried over from one plan year to the next under this guidance do not count against the $2,500 cap on salary reduction contributions for the carryover year. So, for example, an employee could carryover $500 from the 2014 plan year into the 2015 plan year and make a $2,500 salary reduction election for the 2015 plan year, giving the employee a total of $3,000 available during the 2015 plan year.

Grace Period. A plan cannot offer both the carryover option and a grace period option. It must be one or the other. This leads      Continue Reading...

IRS Releases 2014 COLAs for Benefit Plans
By: Jason Lacey

The IRS has released the annual cost of living adjustments for various tax-related items, including benefit plan limits (see herehere, and here). The adjusted amounts will apply for 2014. For the most part they reflect no increase or only a modest increase over 2013 levels. Here are the highlights:

  • Retirement plan elective deferrals (402(g) limit) - $17,500 (unchanged)
  • Retirement plan catch-up contributions - $5,500 (unchanged)
  • Annual additions to a defined contribution plan (415 limit) - $52,000 ($1,000 increase)
  • Definition of highly compensated employee - $115,000 (unchanged)
  • Annual compensation limit (401(a)(17) limit) - $260,000 ($5,000 increase)
  • Social security taxable wage base - $117,000 ($3,300 increase)

Inflation-adjusted amounts for high deductible health plans (HDHPs) and health savings accounts (HSAs) were released earlier this year (see prior post here).

Post-Windsor Guidance Addresses Employment Tax Refunds
By: Jason Lacey

In another round of post-Windsor guidance (here), the IRS has provided some alternative processes for obtaining refunds of employment taxes (FICA tax and withheld income tax) paid with respect to same-sex spouses prior to the Supreme Court's decision in Windsor (e.g., for coverage under a cafeteria or health plan).

Overpayments for 2013. With respect to taxes paid in 2013, there are two alternative procedures for claiming a refund: (1) the employer may true-up the entire year's withholding on its fourth quarter 2013 employment tax return (Form 941); or (2) the employer may file a single amended employment tax return (Form 941-X) for the fourth quarter of 2013 to reflect the correct withholding amounts for the entire year. Both of these approaches allow employers to avoid filing amended returns for each quarter of the year to correct the withholding for that quarter.

For the third quarter of 2013 (July-September), employers should report on the employment tax return for that quarter the amount of taxes actually withheld and not refunded by the end of the quarter. For example, if an employer adjusted its withholding system effective August 1, 2013 and also refunded any taxes withheld in July 2013, then it would not report any of those withheld amounts on its Form 941 for the third quarter. But if it did not refund the July taxes by the end of the third quarter, then those taxes should be reported on the third quarter return and a refund claimed by way of one of the methods      Continue Reading...

IRS Releases Initial Guidance on Same-Sex Spouses
By: Jason Lacey

We have been anticipating guidance from the IRS on the treatment of same-sex spouses for tax and benefit purposes in light of the Supreme Court's overturning of DOMA, and here it is.

Married Anywhere. Rev. Rul. 2013-17 (here) says that a same-sex couple validly married anywhere (including in a foreign country) will be recognized as married for federal tax purposes, even if their marriage is not recognized under the law of their home state. In other words, it’s a state-of-celebration rule, not a state-of-residence rule.

All Tax Purposes. The rule applies for all tax purposes, including employee benefits. So in addition to filing joint tax returns, same-sex spouses may obtain tax-free coverage for each other under health or cafeteria plans and are entitled to spousal rights under 401(k) and other qualified retirement plans. Also, medical expenses incurred by one spouse in a same-sex marriage will qualify for reimbursement from a flexible spending account or health savings account maintained by the other spouse. Recognition of the same-sex marriage may present an issue for participants in dependent care assistance plans, because the spouse's income and employment must now be taken into account.

Retroactivity. Individuals in existing same-sex marriages may go back and claim a refund for taxes on any imputed income that resulted from coverage of a same-sex spouse or children of a same-sex spouse under a health or cafeteria plan. Employers may also be able to obtain refunds of employment taxes imposed on imputed income. The refunds are limited to years for which the statute      Continue Reading...

Supreme Court Invalidates DOMA
By: Jason Lacey

In a closely watched and sharply divided opinion today, the Supreme Court invalidated the federal Defense of Marriage Act (DOMA) and its directive that only opposite-sex spouses may be recognized as spouses for purposes of federal law. Although the details and impact of the decision are still being parsed and evaluated, the bottom line is that same-sex couples who are recognized as validly married under state law are entitled to be recognized as spouses for purposes of federal law.

Brief Background. The case involved a same-sex couple, Edith Windsor and Thea Spyer, who had been married in Canada and whose marriage was recognized as valid under New York law, where they lived. Ms. Spyer died and left her estate to Ms. Windsor, who was required to pay federal estate tax because, under DOMA, she could not rely on an estate tax exception that allows for tax-free transfers of property between spouses at death. She sued for a refund of the taxes, claiming DOMA was unconstitutional.

The Court’s Analysis. Five of the nine Supreme Court justices agreed that DOMA was unconstitutional because it violated the equal protection rights of same-sex individuals who were recognized under state law as validly married. The Court essentially said that if a same-sex couple and an opposite-sex couple are treated the same under state law, they are constitutionally entitled to equal treatment under federal law.

Implication for Employee Benefit Plans. The case has many implications for employee benefit plans. For health plans, qualifying same-sex spouses that are covered under      Continue Reading...

On Facial Hair and Flexible Spending Accounts
By: Jason Lacey

I have worn a beard for most of my adult life, and I appreciate a solid stand of men's facial hair. So I couldn't help noticing an article last week touting a growing industry in Turkey: Turkish mustache transplants. 

For a mere $5,000, the "follicly challenged" can have a cosmetic surgeon enhance their mustache or beard. The procedure is done under local anesthetic and takes only a few hours. In true medical tourism style, the procedures are being offered as part of "transplant packages" that may include additional amenities such as a beachside vacation on Turkey's Mediterranean coast.

If you're looking to boost your masculinity and catch a few rays in the process, this might just be the thing you've been waiting for.

That got me to thinking: This is bound to become wildly popular because - let's face it - who could resist a shot at the mustache of their dreams. Which means it's only a matter of time before we find an employee or two claiming reimbursement under a health FSA, HRA, or HSA for the cost of the procedure. It's medical, so it's covered - right?

Well, not so fast. 

To be reimbursed from a health FSA, HRA, or HSA, expenses generally must be for "medical care," and the tax code specifically excludes cosmetic surgery from the definition of medical care. What counts as cosmetic surgery? Any procedure that "is directed at improving the patient's appearance and does not meaningfully promote the proper function of the body or prevent or treat illness      Continue Reading...

Health FSA Use-It-or-Lose-It Rule to Remain for 2012
By: Jason Lacey

As we have reported previously on this blog (see here), the IRS is considering modifying or eliminating the so-called use-it-or-lose-it rule for health FSAs, which is the rule that requires participants to spend down their entire account balances during the plan year (and any related grace period) or else forfeit the money. Legislative repeal of the rule has also been proposed.

Tax Analysts, which publishes tax-industry news, is reporting today that leading Treasury and IRS officials have said nothing will happen on this issue for 2012, at least as an administrative matter. (Congress theoretically could still act during the post-election lame-duck session, but that seems unlikely too.) However, the government did receive "a tsunami" of letters and comments in support of eliminating the rule, so we may see further movement on the issue in the near future.

With the cap on health FSA contributions reduced to $2,500 for plan years beginning on or after January 1, 2013, there is very limited opportunity for tax avoidance or deferral through health FSAs. So there is a sense that the use-it-or-lose-it rule may no longer serve a meaningful regulatory function. 

It's No Joke: Al Franken Backs Bill to Repeal FSA Use-It-or-Lose-It Rule
By: Jason Lacey

The U.S. House of Representatives approved a bill late last week that would partially repeal the use-it-or-lose-it rule for flexible spending account plans. The change would allow for a taxable distribution of up to $500 in unspent employee contributions remaining at the end of the plan year. Legislative attention to this somewhat obscure provision of the cafeteria-plan rules comes just days after the IRS separately announced it was evaluating whether the limitation should continue.

The bill would also repeal the PPACA restriction on reimbursement of over-the-counter drugs through health FSAs and HSAs. 

The Senate has yet to vote, but there appears to be some bipartisan support for the bill, primarily among senators -- including Democrat Al Franken of Minnesota -- who favor a separate provision that would repeal a tax on medical-device manufacturers.

Federal Appeals Court Rules Against Defense of Marriage Act
By: Jason Lacey

A federal appeals court in Boston ruled late last week that a portion of the Defense of Marriage Act (DOMA) is unconstitutional because it violates the rights of same-sex couples who are validly married under Massachusetts law. At issue in the case was a provision of DOMA that says only opposite-sex spouses may be recognized as spouses for purposes of federal law.

This has important implications for employee-benefit plans because several provisions of federal law grant spouses special rights. For example, spouses have survivor rights under retirement plans, and spouses can receive tax-free coverage and have special-enrollment and COBRA rights under group health plans. Under DOMA, these rights do not apply to same-sex spouses, but that could change if DOMA is struck down.

The case does not disturb existing state statutes and constitutional provisions that prohibit the recognition of same-sex marriages. But difficult questions may arise if a same-sex couple that is validly married in one state seeks to enforce rights under federal law against an employer or employee-benefit plan in a state that does not recognize same-sex marriage.

Ultimately, this is an issue that will be addressed by the Supreme Court, and now that a federal appeals court has ruled, review by the Supreme Court could come as early as next year.

IRS Provides Guidance on $2,500 Health FSA Cap
By: Donald Berner

The IRS issued Notice 2012-40 yesterday (click here for the notice), providing a number of important clarifications regarding the $2,500 cap on health FSA contributions that applies beginning in 2013.  The most surprising development is the IRS's interpretation that the cap applies on a plan-year basis, rather than a calendar-year basis.  This is important for employers with fiscal-year plans.  They will be able to wait until the first plan year beginning after December 31, 2012, to implement the cap, rather than using the transition rule or early implementation of the cap to ensure contributions during the 2013 calendar year do not exceed the cap, as was previously thought necessary.

Other key guidance points include:

  • Clarification that unspent amounts carried over during a grace period will not count against the cap for the plan year in which the grace period occurs.
  • Confirmation that the cap only applies to employee salary-reduction contributions to a health FSA.  Employer contributions (e.g., flex credits) and salary-reduction contributions to dependent-care FSAs do not count, nor do amounts credited to HSAs or HRAs.

In addition to interpretive guidance, the Notice provides a limited correction rule that will allow fixing some good-faith mistakes.  If a mistaken election to contribute more than $2,500 to a health FSA in a year is properly corrected, the error will not jeopardize the plan's status as a qualifying cafeteria plan. 

Of academic interest, the Notice also requests comments on the use-it-or-lose-it rule.  The implication is that the $2,500 cap may be low enough      Continue Reading...


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Don Berner, the Labor Law, OSHA, & Immigration Law Guy
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Boyd Byers, the General Employment Law Guy
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Jason Lacey, the Employee Benefits Guy
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