Health FSA Overview
Health Flexible Spending Accounts (health FSAs) are healthcare accounts into which employees may contribute funds for medical, prescription, vision and dental expenses they expect to incur during the plan year.
At the end of the plan year (extended if there is a grace period or run-out period to employees), any unused funds in an employee's FSA are forfeited. If the plan has a carryover provision, up to $500 can be carried over to use during the next plan year.
Health FSA Tax Advantage
The Internal Revenue Service (IRS) requires that employer sponsored health plans limit the amount of pre-tax dollars that an employee may contribute to a health Flexible Spending Arrangement (FSA) which is a type of §125 cafeteria plan. The funds must be used for qualified healthcare expenses and are tax free.
|Health FSA Limits||2015/2016||2017||2018|
|$2,550||$2,600||$2,650 (Increased by $50.00)|
Health FSAs are subject to a "use-or-lose" provision, but employers may allow FSA participants a carryover of up to $500 into the following plan year to use for qualified expenses in the event there is no grace period. Note, the carryover does not apply to dependent care FSAs (DCAPs).
Plans that favor key employees (more than 25% of the total of the nontaxable benefits provided for all employees under the plan go to key employees), must include the value of taxable benefits that could have been selected and tax liabilities may apply.
Health FSA Rollover
The Internal Revenue Service (IRS) permits section 125 cafeteria plan sponsors to allow participants to carryover up to $500 of unused health FSA funds at the end of the plan year. Adoption of the carryover is optional at the discretion of the plan sponsor. The carryover cannot be used in conjunction with a grace period. Plan sponsors must choose one or the other (or neither).
Prior to the availability of the carryover provision option, FSA funds which were unused at the end of a plan year were forfeited by the participant. The carryover provision allows participants to use carryover funds towards expenses incurred in the following plan year.
The plan sponsor decides whether or not to offer a carryover provision and determines the amount of carryover funds, which can be up to $500, or less, at the discretion of the plan sponsor. The adoption of the carryover provision requires an amendment to the written plan document. Also, the carryover option may not be offered along with a FSA grace period. If a plan sponsor chooses to offer the carryover, any grace period must also be amended out of the plan. Plan sponsors may amend their plans to offer the carryover at any time on or before the final day of the plan year in which funds will be carried over. The carryover option is only available for health FSAs. Dependent care FSAs are not eligible for a carryover, but may still offer a grace period.
Grace Period Rules
Cafeteria plans, including FSAs, may permit employees to use remaining amounts from the previous year to pay for expenses incurred for qualified benefits during a period of up to two (2) months and fifteen (15) days following the end of the plan year. This is not automatic. The plan would have to have provisions for a grace period. Expenses for qualified benefits that are incurred during a grace period may be paid or reimbursed from benefits or contributions that remain unused at the end of the preceding plan year.
Unused benefits or contributions are not permitted to be cashed out or converted to other benefits. For example, unused benefits or contributions in a health FSA cannot be used to pay or reimburse dependent care expenses, nor used for any other expenses which are incurred during a grace period.
Grace periods are permissible for both health FSAs and DCAPs and must apply to all participants of the plan. Once the grace period is over, any remaining funds are forfeited under the "use-it-or-lose-it" rule. Employers may provide a run-out period after the end of a grace period.
A run-out period is a period time which immediately following the end of a plan year. During the "run-out period", plan participants can submit a claim(s) for reimbursement of expenses which were incurred for qualified benefits during the plan year.
Substantiation requirements apply to all qualified benefits offered through a cafeteria plan. Only substantiated expenses for qualified benefits which were incurred on or after the effective date of the plan can be reimbursed to the plan participant.
A cafeteria plan must require substantiation of the full claim amount as a precondition of payment or reimbursement of expenses in order to comply with Internal Revenue Code (IRC) sections 105(b), 129 and 137. Expenses must be substantiated by confirmation of expenses from an third party which is independent of the employee and his or her dependents.
The independent third party must provide information which describes the service or product, the date of the service or the date the item was purchased, and the amount of the expense. A statement which confirms the expenditure, either automatically at payment or after the expense is incurred, is required from the third party for the plan to reimburse the expense and meet regulatory requirements. For example, if a plan reimburses an employee for an expense that includes a description of medical services and the amount of the charge, but does not include a statement from an independent third party to verify the expenses, any amounts paid under the plan are includible in the employee's gross income.
Independent Third-Party Statements
If the employer is provided with an Explanation of Benefits (EOB) from an insurance company, the EOB serves as an adequate confirmation of qualified expenses. An EOB includes the date the medical care was provided and the participant's payment responsibility such as coinsurance and plan deductible amounts.
If an EOB is provided, an additional payment receipt is not required for reimbursement, but the employee would need to certify that any expense paid through the health FSA has not been, nor will be reimbursed under any other plan which covers health benefits.
The Uniform Coverage rule
The uniform coverage rule requires that health FSAs provide uniform coverage throughout the period that an employee is covered by the plan. This means the maximum amount of reimbursement from a health FSA must be available from the first day of the plan year through the last day of the plan year or until employment terminates (if no COBRA election is made.)
The funds must be available to reimburse any claims for qualified medical expenses incurred during the entire coverage period, including both elected salary reduction amounts and non-elected amounts, for example, employer flex credits. The plan cannot base reimbursements to an employee for claims by the amount of funds the employee contributed up to any particular date within the plan year. If the employee is laid-off or terminates employment, if at the time of the event the reimbursements exceed the employee's contributions, the employer is not permitted to collect the difference from the employee. The uniform coverage rule also applies to plans with a carryover provision.
FSAs and Health Care Reform
An FSA is considered a Health Insurance Portability and Accountability Act (HIPAA) excepted benefit and exempt from health care reform requirements for participants in the same class (i.e. part time employees or full time employees) if two conditions are met. They are the maximum benefit condition and the availability condition.
The maximum benefit condition requires that the benefits paid cannot exceed two (2) times the participant's salary reduction election amount for the plan year, or if greater, the amount of the election plus $500. The maximum benefit condition includes both the participant's salary reduction and any employer contributions, if applicable.
For example, if an employer matches the amount of the employee's salary deduction election, the maximum benefit condition is met because the benefit is no more than two (2) times the amount of the elected salary reduction. If an employer contributes $500 or less to the FSA, and the employee's salary reduction amount is $200, the FSA is considered an excepted benefit because the amount of the salary reduction election plus $500 option is met.
FSAs that are funded by the employee only (no employer contribution), meet the maximum annual benefit condition as long as the annual coverage is no more than the employee's elected salary reduction election amount.
For the availability condition, the employer must offer other group health coverage that is classified as a non-excepted benefit, for example, major medical coverage. The non-excepted benefit coverage must be made available to the class of participants by reason of their employment.
During a health FSA's run-out period, potential carryover amounts can be used to reimburse claims from the prior or current year. No more than $500 in potential carryovers can be used to reimburse expenses from the current year. Any current year claims that are paid from potential carryover amounts must be subtracted from the $500 maximum carryover amount.
Plans are permitted to reimburse claims from the current year claims first if they choose. This enables the plan to use current year contributions first and leave prior year expenses to reimburse claims expenses during the run out period.
The plan can allow employees to elect to carryover unused amounts in a health FSA from a general purpose to a limited-purpose FSA, for example, only to pay for dental expenses, so the carryover does not interfere with Health Savings Account (HSA) eligibility.
Health FSAs and COBRA
An employer subject to the Consolidated Omnibus Budget Reconciliation Act of 1985 (or COBRA) must offer COBRA coverage to qualified beneficiaries who lose their health FSA coverage because of a qualifying event.
Health FSAs meeting certain premium criteria qualify for the special limited COBRA obligation. The health FSA must provide excepted benefits, and the COBRA premium under the health FSA must meet certain minimums. If the maximum amount of the health FSA's premium for a year of COBRA equals or exceeds the maximum annual benefit available under the health FSA, the COBRA premium condition for the special limited COBRA obligation is met.
When a health FSA, qualifies for a special limited COBRA obligation, the employer's has to offer COBRA coverage is as follows:
• COBRA coverage does not have been offered to qualified beneficiaries who have "overspent" their accounts as of the date of the qualifying event.
• For those with underspent accounts, COBRA coverage must be offered, but can end at the end of the plan year in which the qualifying event occurs.
COBRA for a health FSA is not required to be made available for the plan year a qualifying event occurs unless on the date of the qualifying event, the amount the qualified beneficiary may become entitled to receive in the remainder of the plan year is more than the COBRA premium for the remainder of the plan year. For employees who spent more than they contributed to an FSA by the time their employment terminated, there is no obligation to offer COBRA beyond the end of the plan year. In this instance, FSA re-enrollment rights do not have to be offered during the COBRA plan's annual open enrollment.
FSAs which are limited to use for dental or vision benefits, are considered excepted benefits. But a limited-purpose FSA which also covers preventive care is not considered an excepted benefit on the basis of having a limited scope alone. For this type of health FSA, the employer would also have to offer a major medical plan to be in compliance with health care reform requirements.
Penalties for a health FSA failing to qualify as an excepted benefit can result in an excise tax penalty of $100 per day per participant per day or other penalties under health care reform.
This content is being provided as an informational tool. It is believed to be accurate at the time of posting and is subject to change. It is recommended that plans consult with their own experts or counsel to review all applicable federal and state legal requirements that may apply to their group health plan. By providing this information, Meritain Health is not exercising discretionary authority or assuming a plan fiduciary role, nor is Meritain Health providing legal advice.