Section 125 Administrator Training Compliance and Filing Requirements
2 Who Can Sponsor a Plan? Regular C corporations Partnerships S Corporations Limited Liability companies (LLCs) Sole Proprietorships Professional Corporations Not-for-Profits While regulations prohibit a sole proprietor, partners, members of an LLC (in most cases), or individuals owning more than 2% of an S corporation from participating in the FSA plan, they may still sponsor a plan and benefit from the savings on payroll taxes. Employee shareholders of regular C corporations may also participate.
3 Spouses and Dependents of Owners Spouses and dependents of owners who are bona fide employees and deemed not to be self employed may participate in the cafeteria plan for: Sole Proprietors Partners Spouses and dependents of S Corporation who are more than 2% shareholders may not participate in the cafeteria plan. Employee becomes a partner or a more than 2% shareholder midyear. Partners are disqualified on a prospective basis. A more than 2% shareholder is disqualified retroactively. This definition says if at any time during the year.
4 Definition of Dependent The Working Families Tax Relief Act of 2004 created a new standardized definition of dependent. An individual now would be considered a dependent if they fall under one of the following: 1) Qualified Child or 2) Qualified Relative. To be considered someone s dependent, a person needs to be either a qualified child or a qualified relative.
5 Qualifying Child Relationship the taxpayer s child or stepchild (whether by blood or adoption), foster child, sibling or stepsibling, or a descendant of one of these. Residence has the same principal residence as the taxpayer for more than half the tax year. Exceptions apply, in certain cases, for children of divorced or separated parents, and other special instances. Age must be under the age of 19 at the end of the tax year, or under the age of 24 if a full-time student for at least five months of the year, or be permanently and totally disabled at any time during the tax year. The child must also be younger than the employee unless the child is permanently and totally disabled. Healthcare reform changes to age 26 and can file a joint return.
6 Qualifying Child Support did not provide more than one-half of his/her own support for the tax year. Tax Filing not filed a joint return (other than only for a claim of refund) with the individual s spouse. Additional requirements: Be a U.S. citizen or national, or a resident of the U.S., Canada or Mexico. There is an exception for certain adopted children. Marital status if married, did not file a joint return for that year, unless the return is filed only as a claim for refund and no tax liability would exist for either spouse if they had filed separate returns.
7 Qualifying Relative Relationship An individual who bears a relationship to the taxpayer as described under Code Section 152(d)(2), including someone who has the same principal abode as the taxpayer for the taxable year and is a member of the taxpayer s household. Gross Income Has gross income that is less than the personal exemption amount $3,650 for 2010 tax year. (Gross income limit test does not apply to health plans so you may omit this definition when looking at a health plan, Health FSA, or HRA.) Support For whom the taxpayer provides over one-half of the individual s support for that calendar year, and Qualifying Child Is not an otherwise qualifying child of the taxpayer or of any other taxpayer for any portion of the year.
8 Dependent Generally, pre-tax benefits only may be afforded to the employee, their spouses and dependents. Benefits coverage for all others is to be paid with taxed dollars. Here s what to tell participants: A qualifying child must live with the participant The taxpayer need not maintain the home that they and their dependents live in The taxpayer need not provide more than one half of the qualifying child s support Domestic partners must fall under the qualifying relative definition if they are to be considered a dependent
9 Important Information Plan must be in writing Summary Plan Description distributed to plan participants Elections made prior to beginning of the plan year Elections cannot be changed or revoked during the plan year unless the participant has a change of status, or a change in cost or coverage COBRA continuation forms provided to terminating participants in the Health FSA portion of plan If disability insurance is paid on pre-tax basis, benefits received by the employee will be taxable Under most circumstances, disability insurance should not be included in the plan
10 Important Information No more than $50,000 of employer-sponsored group-term life insurance may be provided to employees on a pre-tax basis. Insurance products with a return-of-premium feature cannot be paid for on a pre-tax basis. Plan may not discriminate in favor of highly compensated or key employees. Written statement by January 31 of every calendar year showing amounts paid or expenses incurred for daycare, adoption and employer HSA expenses during previous calendar year. These amounts are shown on employee s W-2 (page 7-3).
11 Important Information Generally, employers with Health FSA plans that cover more than 100 participants must file an IRS Form 5500 each year (page 7-53). Health FSA must be employer pre-funded. Eligible expenses must be incurred during plan year. Funds elected by participants, but unused at the end of the year, will be forfeited. Because employees do not pay social security tax on income redirected to the plan, their social security benefits may be slightly reduced.
12 Elections No retroactivity (except for certain HIPAA Special Enrollment Rights). Elections must be made by participants prior to the beginning of the coverage period, or new plan year Generally, irrevocable Elections cannot be changed or revoked during the plan year unless the participant has a change in status, or a change in cost or coverage
13 Special Enrollment Rights Special enrollment rights under Health Insurance Portability and Accountability Act (HIPAA) Allows election changes on prospective basis in the event of marriage (a HIPAA event). Retroactive election changes can be made for HIPAA events of birth, adoption, or placement for adoption if change is requested within 30 days of event.
14 Special Enrollment Rights Special enrollment rights under Health Insurance Portability and Accountability Act (HIPAA) Allows election changes on a Retroactive basis for election changes on account of: 1.Termination of coverage due to loss of eligibility under Medicaid or a state-sponsored Children's Health Insurance Program (CHIP), or 2.Eligibility for employment assistance under Medicaid or CHIP to help pay for coverage under the employer health plan Change must requested within 60 days of event to invoke the special enrollment rights for HIPAA Code Section 9801(f)
15 223 Health Savings Account (HSA) Section 125 Cafeteria Plan 137 Adoption Assistance 129 Dependent Care Assistance 105 & 106 Health, Vision, & Dental Plans 105 & 106 Unreimbursed Medical 79 Group-Term Life Insurance
16 Premium Only Plans Premiums paid for policies that provide payment for: Hospitalization, surgical fees, x-rays, etc. Prescription drugs Replacement of lost or damaged contact lenses Membership in association that gives cooperative or free-choice medical services, or group hospitalization and clinical care Long and short-term disability If disability insurance is paid on pre-tax basis, employee pays taxes on benefits received. Employer-paid disability premiums are considered a pre-tax payment Prescription coverage Medical discount plan
17 Premium Only Plans Premiums paid for policies that provide payment for: Employer-sponsored group term life insurance in excess of $50,000 coverage If premiums are paid on a pre-tax basis, generally the life insurance benefits remain non-taxable. $50,000 coverage limitation on a pre-tax basis Coverage over $50,000 on an after-tax basis, or impute income at the end of the taxable year Accidental death and dismemberment No dependent coverage, even if de minimus (IRS Notice 89-110) Dental care Vision care Lifetime care medical care portion only
18 Premium Only Plans Cannot include premiums for: Life insurance policies Return-of-premium products Long-term care policies -125(f) Dependent life insurance policies Domestic partners unless they qualify as a dependent of the participant
19 Flexible Spending Accounts (FSAs) Health FSAs (Section 105 & 106) Dependent care assistance plans (Section 129) Individually owned health insurance plans (Section 106) Adoption assistance plans (Section 137) Health Savings Account (Section 223) Vacation days buy and sell 401(k) plan elections
20 Health FSA Expenses must be incurred during plan year. This is the date the service is rendered Expenses can be incurred for participant, spouse, or dependent Includes amounts paid for diagnosis, cure, mitigation, treatment, or prevention of disease, and for treatments affecting any part or function of the body Includes over-the-counter (OTC) drugs (page 7-102) Starting on January 1, 2011, special rules apply to OTC drugs and medications. They require doctor s prescription.
21 Health FSA Expenses not eligible for reimbursement: Insurance premiums Individual Spousal Contact lens or medical device insurance premiums Cosmetic procedures Teeth bleaching Cosmetic surgery Spider vein removal Electrolysis Long-term care premiums or expenses
22 Dependent Care Care must be for one or more qualifying persons who are identified on the form used to claim the credit (Form 2441) (page 7-4) Participant and spouse (if married) must live with the dependent(s) Participant and spouse (if married) must have earned (or deemed earned) income during the year Care must be so participant and spouse (if married) can work or look for work Divorce only one parent may take the credit or use pretax dollars for children s daycare expenses
23 Dependent Care Participants may not make payments to someone they or their spouse (if married) can claim as a dependent. If payments are made to the participant s child, the child cannot be a dependent, and must be age 19 or older by the end of the year Filing status must be single, head of household, qualifying widow(er) with dependent children, married filing jointly, or married filing separately Participant must identify care provider on tax return Benefits through a 125 Cafeteria Plan reduce the Dependent Care Tax Credit dollar for dollar
24 Dependent Care An eligible dependent is any member of your household for whom you can claim expenses on Federal Income Tax Form 2441 Credit for Child and Dependent Care Expenses. (page 7-5) Children must be under age 13. Other dependents must be physically or mentally unable to care for themselves. Dependent Care arrangements that qualify for expense reimbursement include: A Dependent (Day) Care Center, provided that if care is provided by the facility for more than six individuals, the facility complies with applicable state and local laws. An Educational Institution for pre-school children. For children beyond pre-school age, only expenses for non-school care (e.g., after-care) are eligible. An individual who provides care inside or outside your home. The individual may not be a child of yours under age 19 or anyone you claim as a dependent for Federal tax purposes.
25 Dependent Care Limitations on Payments $5,000 for married, filing jointly (household) $5,000 for single, head of household $2,500 for married, filing separately Daycare Credit $3,000 for 1 child $6,000 for 2 or more children
26 Dependent Care If spouse is physically or mentally incapable of self care, then disabled spouse is deemed to have income If spouse is full-time student, then deemed to have income Deemed earned income levels $250 per month for 1 dependent $500 per month for 2 or more dependents
27 IRS Forms Dependent care salary redirections shown in Box 10 of W-2 (page 7-3) Form 2441 (page 7-5) If one parent cannot claim the child as a dependent, the child could be treated as that parent s qualifying person if they are considered to be the custodial parent. The non-custodial parent cannot treat the child as a qualifying person even if that parent is entitled to claim the child as a dependent under the special rules for a child of divorced or separated parents.
28 Dependent Care Expenses not eligible for reimbursement: Education expenses Overnight camp Food, clothing Entertainment
29 Dependent Care Final Regulations August 14, 2007 1.21-1, 1.21-2, 1.21-3, and 1.21-4 Clarification of eligible daycare expenses See Proposed Regulations for Dependent Care Expenses (page 7-112) in Appendix of Forms
30 Individually Owned Insurance Policies Individual policies paid for by participants: Health insurance Dental insurance Vision insurance COBRA continuation for employer s or former employer s health plan Disability insurance If disability insurance is paid on pretax basis, employee must pay tax on benefits received http://mhmresources.com/doc/articles/mhmr-bw0309- DisabilityBenefitsAndTaxation.pdf
31 Individually Owned Insurance Policies Expenses not eligible for reimbursement: Term or whole life insurance policies Spousal premiums (coverage sponsored by spouse's employer) Cannot build up cash value No lifetime care policies (Section 125(f))
32 Individually Owned Insurance Policies Compliance Must be accounted for separate from Health FSA Reimburse participant or third-party providers Special language in plan document Revenue Ruling 61-146 Employer notification letter (page 7-14)
33 Adoption Assistance Employee can exclude up to $12,170 (2010) per adoption attempt Dollar limit is on a per-child basis, not per-year basis Participant may use cafeteria plan and the tax credit if sufficient expenses are incurred Qualifying Expenses Reasonable and necessary adoption fees Court costs Attorney s fees Other expenses directly related to legal adoption of a child You cannot exclude FICA taxes from contributions for Adoption Assistance Foreign adoptions must be complete in the year the expenses are considered for credit or cafeteria plan
34 Adoption Assistance Compliance When employee s adjusted gross income (AGI) reaches $182,520 (2010) the excludable amount is lowered. Excludable amount phases out when AGI reaches $222,520 (2010) Plan does not have to be employer pre-funded Participants may redirect up to $12,170 (2010) per adoption through salary redirection and also take the adoption credit if they incur sufficient eligible expenses FICA paid on all contributions Redirected amounts shown on W-2 Box 12 (page 7-3) Form 8839 (http://www.irs.gov/pub/irs-pdf/f8839.pdf and http://www.irs.gov/pub/irs-pdf/i8839.pdf) filed with tax return Form 1040
35 Health Savings Account (HSA) Participant-owned healthcare reimbursement account Employer contributions, including cafeteria plan salary redirections reported on W-2, Box 12 Code W
36 Summary Flexible Spending Account (FSA) Section 125 Health FSA Section 105(h) Dependent Care Section 129 Individually Owned Policy Premiums - Section 106 Adoption Assistance Section 137 Vacation Buy/Sell Premium Only Plan (POP) Section 125 Health Insurance Premium Section 106 Disability Insurance Premium Section 106 Group-Term Life Insurance Premium Section 79 Health Savings Account (HAS) Section 223
37 Plan Years Generally for a 12-month period of time, but can be a first, short plan year that is less than 12 months Good idea to have plan year coincide with healthcare insurance year, since a change in cost of coverage does not allow a change in Health FSA election Two short plan years together. No code section or regulations that rules this out, but should be a rare instance
38 Terminated Employees Can take one contribution out of last paycheck Make sure it does not extend coverage beyond their termination date unless the terminating employee signs a COBRA form Make sure it does not extend coverage beyond plan year end Can not force them to return excess reimbursements
39 HIPAA Certification Requirements Generally, for plan years beginning after June 30, 1997, health and welfare plans were subject to HIPAA certification requirements (page 7-99). This requires plan sponsors to issue Certificates of Creditable Coverage (page 7-48) to participants in health plans that lose coverage. Certificates certify that a participant had creditable coverage from a previous plan or employer that would offset any preexisting condition limitation periods in new health plan. Losing coverage could include termination of employment or dropping health insurance coverage. Does not apply to any governmental plan or any group health plan that for any plan year where the plan has less than two participants who are current employees.
40 HIPAA Certification Requirements for Health FSAs Unreimbursed medical portion of Cafeteria Plan is considered a welfare benefit plan and therefore must comply with HIPAA certification requirement, unless the Health FSA is specifically exempt from issuing the certification
41 HIPAA Certification Exemption On December 29, 1997, the IRS, Department of Labor, and the Health Care Financing Administration published Clarification of Regulations Clarified interim HIPAA regulations by specifying circumstances under which a Health FSA would be considered an excepted benefit Excepted benefits do not have to comply with the certification requirement applied to most health plans
42 HIPAA Certification Exemption Health FSA is excepted benefit if: Employer provides another group health plan, and benefits under the other plan are not limited to excepted benefits. Excepted benefits are plans with limited provisions, like dental or vision coverage, and Maximum reimbursement under Health FSA is not greater than two times employee s salary reduction election (or if greater, employee s salary reduction election plus $500).
43 HIPAA Certification Exemption Employee Election $800 Employer Contribution $400 Maximum Reimbursement = $1,200 Two times employee annual salary reduction election = $1,600 Plan is exempt from HIPAA Certification requirements
44 HIPAA Certification Exemption Employee Election $350 Employer Contribution $450 Maximum Reimbursement = $800 Two times employee annual salary reduction election = $700 Employee salary reduction election ($350) plus $500 = $850 Plan is exempt from HIPAA Certification requirements
45 COBRA Requirements Health FSA portion of Cafeteria Plan is a welfare benefit plan and subject to group health plan rules which include COBRA continuation coverage Participants in Health FSA and their spouses and dependents must be provided an initial COBRA notice (page 7-49) once coverage under Health FSA is lost like termination or death of participant COBRA continuation rules generally apply to employers with 20 or more employees Employer may charge COBRA premium plus a 2% administration fee
46 COBRA Requirements Why elect COBRA continuation? If participants in a Health FSA have contributed more to the plan than expenses incurred to date, they would forfeit the excess contributions upon termination. Only by electing COBRA continuation coverage can terminated participants extend the period of coverage in order to incur expenses that are reimbursable under the plan Health FSA may be exempt from offering COBRA continuation in certain circumstances
47 COBRA Exemption A Health FSA will not need to offer COBRA continuation in current plan year if: Health FSA is exempt under HIPAA because its benefits are excepted benefits, and Future COBRA premiums (contributions to Health FSA) equal or exceed potential future benefits (disbursements). This would be the case if, at termination, contributions needed to fund the plan through the plan year end were $600 and only $200 remained in account to be reimbursed.
48 COBRA Exemption Subsequent plan year exception Health FSA will be exempt from offering COBRA in subsequent plan years if: Health FSA is exempt from HIPAA, and Maximum amount that Health FSA could require to be paid for a full plan year of COBRA continuation coverage equals or exceeds maximum benefit available under Health FSA for the year. Requirement is met if contributions for entire plan year ($1,200) equal or exceed annual election ($1,200). By plan design, this could always be the case. If Health FSA does not meet requirements, employer must provide terminating employee a HIPAA Certification and notice of continuation of coverage under COBRA.
49 Mergers and Acquisitions (page 7-95) June 2002 IRS Revenue Ruling 2002-32 Coverage continues under seller s plan Coverage transfers to buyer s plan No mid-year election changes allowed because of transfer Buyer and seller must both maintain a cafeteria plan Both plans based on the same plan year
50 Double Dipping (page 7-97) Revenue Ruling 2002-03 and 2002-80. Employer reduces employees salaries by entire cost of insurance coverage under an IRC Section 125 Plan. Reimburses employee an amount back to the original take-home pay amounts, citing IRC Section 106 and Revenue Ruling 61-146. Money afforded to participants before the employer knows if they have medical expenses. Reimbursement and Loan schemes. Also involves pre-tax parking schemes.
51 Double Dipping $40,000 Gross income $ 745 Pre-tax health insurance $39,255 Taxable income $14,132 Taxes $25,123 Net check $40,000 Gross income $ 3,720 Pre-tax health insurance $36,280 Taxable income $13,061 Taxes $23,219 $ 1,904 Employer add back $25,123 Net check Employer saves $1,071 in insurance premiums and $228 in FICA taxes.
52 Summary Plan Description SPD must be furnished to participants within 120 days after plan is adopted New employees must receive a copy within 90 days after becoming participants If plan is amended, an updated copy of SPD must be given to plan participants every five years. This must be distributed within 210 days after the year end of the five-year period If plan is not amended, a copy of the SPD must be furnished to each participant every 10 years. This must be distributed within 210 days after the year end of the 10-year period A description of material changes in the plan must be furnished to plan participants within 210 days after the end of the plan year in which the amendment occurs
53 Claims DOL issued final regulations in 2002 Post-service claims are to be responded to as soon as administratively possible, but in no case more than 30 days from receipt of claim One-time 15 day extension allowed Claimant has 180 days in which to file an appeal. Post-service claim administrators then have 60 additional days to respond
54 ERISA Requirements Employee Retirement Income Security Act (ERISA) does not specifically cover Cafeteria Plans. However, qualified medical benefits in a Cafeteria Plan Health FSA may be subject to ERISA since ERISA applies to welfare plans that provide employees with medical benefits Dependent care assistance programs, adoption assistance programs, and premium only plans are not considered welfare benefit plans and are not subject to ERISA
55 ERISA Trust Requirement According to DOL, employee contributions to Cafeteria Plans for medical benefits are considered plan assets and must be segregated from the employer s general funds and put into a trust as soon as administratively feasible ERISA Technical Release 88-1, issued in August 1988, indicates that DOL will not assess an ERISA violation against a Cafeteria Plan merely because employee contributions have not been placed in a trust
56 ERISA Audit Requirement ERISA Section 104 requires that an audit be performed by an independent qualified public accountant if an ERISA plan has more than 100 participants
57 ERISA Audit Requirement An exception to this requirement exists if the benefits are paid solely from the employer s general assets. Most practitioners thought this exception would apply to typical Health FSAs because benefits are paid from the employer s general assets and no trust is used. However, according to DOL, money withheld from an employee s compensation is considered plan assets and, therefore, this exception does not apply. Reason for the audit requirement stems from concerns over the protection of participant assets in the event the employer goes bankrupt.
58 ERISA Technical Release 92-01 Release 92-01states that DOL will not enforce trust or audit requirements regarding Cafeteria Plans until after December 31 1993, or the adoption of final regulations clarifying the scope of ERISA's trust and reporting requirements, if earlier DOL indicated that this interim relief was in part because requiring compliance would have resulted in significant and possibly unnecessary administrative costs and burdens on Cafeteria Plan sponsors. Trust Issue New release expands and supersedes ERISA Technical Release 88-1 Audit Issue Audit requirement would not be enforced against self-insured plans in the absence of a trust, or against certain insured plans where participant contributions are paid to insurer within 90 days of receipt
59 ERISA Technical Release 92-01 Health FSA will not have to be audited as long as participant contributions are not held in a trust, but are part of the employer s general assets. DOL has issued final regulations concerning trust and audit requirements. The regulation s preamble clarifies that the no-enforcement policy of Technical Release 92-01 remains in effect. Contributions to a plan are considered plan assets unless benefits are paid as needed only from employer s general assets. Like cutting checks from the employer s general operating account. Employer can set up separate account to pay benefits. However, account should be in company s name only. Do not title account, ABC Company Flexible Benefit Plan Account (page 7-15). Using a TPA account to pay benefits might also create plan assets.
60 Mistakes Happen Administrative mistakes do occur If the plan administrator feels there is clear and convincing evidence of a true mistake Employee signs election form, but it never makes it to the payroll department. Payroll deduction missed for all participants can be made up on subsequent payroll(s) Paid ineligible or unpaid eligible claims Any governmental forms that need to be amended?
61 W-2 requirements (page 7-3) Generally, redirections to a cafeteria plan are not shown as wages in Box 1 Dependent care benefits shown in Box 10 Adoption benefits show in Box 12 labeled with a T HSA contributions made by employer or through cafeteria plan shown in Box 12 and labeled with a W The value of any employer-sponsored healthcare coverage to be reported on employee s 2011 W-2
62 ERISA record retention requirements Six years after the Form 5500 deadline. This timeframe would include about eight years worth of records. Indefinite period of time for plan documents.
63 FSA Experience Gains (Forfeitures) Prop. Reg. Section 1.125-5(o) Health FSA has an experience gain with respect to a year of coverage if total premiums paid and income (if any) is greater than total claims reimbursements and reasonable administrative costs for year
64 FSA Experience Gains (Forfeitures) Excess can be returned to participants as dividends or premium refunds, however, it must be allocated among participants on a reasonable and uniform basis Reduce required premiums for the immediate following year Returned to employee Can use different coverage levels (annual election) of participants Can reimburse claims incurred above the elective limit in the immediate following year as long as it s done in a nondiscriminatory manner Cannot be allocated among participants based on individual claims experience Cannot be allocated directly or indirectly to any deferred compensation benefit plan Retained by the employer maintaining the plan and could help offset losses caused by terminated employees
65 TPA License Requirement The Commissioner of Insurance in your state may require you to be licensed if you handle Health FSA funds Louisiana, Kansas, and Ohio (to name a few) have such a requirement Check with Commissioner of Insurance in your state, and the states in which you do business, to determine if you need to apply for a Third Party Administrator license
66 TPA Bond Requirement Bond is required under ERISA for TPAs that manage Health FSA contributions. Health FSA portion of Cafeteria Plan is a welfare benefit plan and, therefore, subject to ERISA. This is especially true of a TPA who accepts contributions from an employer and writes checks from a TPA account. Minimum amount for a bond must be 10% of amount of funds handled. In dollar figures minimum amount of a bond would be $1,000 and maximum required $500,000. If you have liability coverage for employee theft, that coverage may take the place of a bond. Check with your benefits attorney for further guidance.
Section 125 Administrator Training Compliance and Filing Requirements