FAQs - Flexible Spending Accounts


FSA Links

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Section 125: Employers Win, Employees Win, Agents Win.
Article by Jørgen K. Christiansen, President of alt Bentley Yates

USA Today news article:
http://www.usatoday.com/money/perfi/columnist/block/2003-09-29-ym_x.htm

IRS: "Over-the-Counter Drugs To Be Covered by Health Care Flexible SpenIding Accounts" :
http://www.irs.gov/newsroom/article/0,,id=112623,00.php

FAQs for government entities regarding Cafeteria Plans:
http://www.irs.gov/govt/fslg/article/0,,id=112720,00.php

Child and Dependant Care Credit:
http://www.irs.gov/taxtopics/tc602.php

Wikipedia definition, includes several links to IRS sites
http://en.wikipedia.org/wiki/Flexible_spending_account

About the 2.5 month grace period:
http://www.ustreas.gov/press/releases/reports/n0542.pdf


FSA / Section 125 Plan Employee Information

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1. What is a Cafeteria Plan?

A Cafeteria Plan, also known as Flexible Spending Account (FSA), is a voluntary plan established by your employer. This plan allows you to select various employee benefits that will be paid on a non-taxable basis.

1a. What is a Flexible Spending Account (FSA)?

Another term for a Cafeteria Plan, see above.

2. How does the Cafeteria Plan work?

Once each year you make a decision to redirect part of your income through your employer's Cafeteria Plan to pay for your medical and child care expenses before taxation. This election is irrevocable during the Plan Year, and can only be changed if there is a change in family status, employment, or a change in a spouse's employment.

3. What do you mean by non-taxable basis?

Presently, you may be paying for a variety of medical expenses from your take-home pay that are not covered by health insurance. This plan will allow you to pay for those expenses with before tax dollars and allows you to pay childcare expenses with before tax dollars.

4. How do these items become non-taxable?

By redirecting your taxable income, your employer pays these items through a reimbursement method before the government takes the taxes out of your paycheck.

5. What advantage is this to me?

The biggest advantage is the tax savings. Since a Cafeteria Plan uses pre-tax dollars for reimbursement of otherwise after-tax expenses, employees reduce their Social Security, Federal, and State income tax by reducing their taxable income and thus their taxes. In other words, the more employees use the Cafeteria Plan, the lower their tax base and the greater their tax savings.

6. Can your employer's stop this plan at any time and what would happen to me in that event?

Yes, your employer can stop the plan and if this did happen, you would revert back to your original taxable income and tax status.

7. If I redirect a portion of my taxable income, will I make less money?

No, in all cases your take-home pay will remain the same. In addition, an Insurance/Tax Deferred accumulation plan will be established for you. That Tax Deferred accumulation plan will substantially increase your retirement benefit.

8. What if I do not use all the money allocated to a benefit?

In each counseling session, we help the individual to estimate their allowable expenses for the coming year. This will help avoid unused benefits at the end of the year.

9. Are there any negatives that I should know about?

Yes, because you are not paying Social Security Tax on that portion of your income that has been redirected, your Social Security Benefits could be slightly reduced. However, by placing the tax savings into an individual Insurance/Tax Deferred accumulation plan you will substantially increase your personal retirement benefits. A counselor will explain this benefit improvement to you.

10. When I apply for credit, what take-home pay do I show on the credit application?

You show your take-home pay before your Cafeteria Plan was put in place.

11. What pay figure is used to calculate retirement contributions to qualified pension, or profit sharing plans, 401k Plans, and IRA's?

Your pre-Cafeteria Plan pay is used as the basis for these contributions.

12. If I join the plan, will someone be available to review the plan periodically with me?

Yes, a counselor will be available to review your plan at least once each year and adjust the amount of taxable income you are redirecting to your various benefits.

13. Give me some samples of "allowable expenses" under the Cafeteria Plan:

Dental insurance, Chiropractor, Dental Care, Therapy treatment, Oral surgery, Physician, Eye care, Eye Glasses, Hospital bills, X-Rays, Gynecologist, Ambulance Hire, Birth control pills, Nurse, Physical Examination, Nursing care, Laboratory, Prescription drugs, Medical Premiums, Child Care, Weight Loss programs.

14. Is this a new Concept?

No, it has been available since 1978 and has been utilized by many large companies such as Pepsi Cola, General Motors, Quaker Oats, Mariott Hotels and many other firms. Only recently has this concept been redesigned to function properly in small companies, giving the employees of those small companies the same benefits available to the employees of larger companies.

Any individual questions about your program will be answered at your annual personal program review with an alt Bentley Yates Counselor, or you may call alt Bentley Yates and Company at 877-731-3532.


FSA / Section 125 Plan Employer Information

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1. What is a Cafeteria Plan?

A Cafeteria Plan, also known as Flexible Spending Account (FSA), is a voluntary plan established by your employer. This plan allows you to select various employee benefits that will be paid on a non-taxable basis.

1a. What is a Flexible Spendings Account (FSA)?

Another term for a Cafeteria Plan, see above.

2. What advantage is this to the employer?

The advantages to you, the employer, are numerous. First, there is a significant saving in your payroll costs. When your employees reduce their taxable income, you will have the benefits of lower matching FICA cost. In addition, your Workers' Compensation premiums are reduced for the same reason, namely a reduction in your employees' salary. This benefit not only reduces their taxes and increases their take-home pay, but also increases your bottom line profit at the same time! You will find the cost to install the plan to be significantly less than the savings you realize. Normal installation costs run about 35% of first year's savings. No installation cost during later years.

3. How does the Cafeteria Plan work?

Once a year, your employees make a decision to redirect a portion of their income through the Cafeteria Plan to pay for their eligible medical and child care expenses before taxes. This election is irrevocable during the Plan Year and can only be changed if there is a change in an employee's family status, employment, or change in a spouse's employment.

4. Will I get involved in a lot of new administration?

No, you will not. alt Bentley Yates will do all your administrative work. You will receive a monthly listing of what reimbursements each employee should receive. The plan money will always stay under your control in your bank.

5. How do these items become non-taxable?

By redirecting a portion of their taxable income, you the employer pay these items for them through a reimbursement method before the government takes the taxes out of their paychecks.

6. As an employer, can I stop this plan when I choose?

Yes, you can stop the plan when you choose and if this does happen, your employees would revert to their original taxable income and tax status.

7. What advantages do my employees realize?

The biggest advantage is the tax savings. Since a Cafeteria Plan uses pre-tax dollars for reimbursement of otherwise after-tax expenses, employees reduce their Social Security, Federal and State income taxes by reducing their taxable incomes, and thus their taxes. In other words, the more your employees use the Cafeteria Plan, the lower their tax base and the greater their tax savings.

8. Is this a new Concept?

No, it has been available since 1978 and has been utilized by many large companies such as Pepsi Cola, General Motors, Quaker Oats, Marriott Hotels and many other firms. Only recently has this concept been redesigned to function properly in small and medium sized companies, giving your employees the same benefits available to the employees of larger corporations.

9. What is meant by non-taxable basis in question one?

Presently, your employees may be paying for a variety of medical expenses from their take-home pay that are not covered by health insurance. This plan will allow them to pay for those expenses with before tax dollars and also allows them to pay childcare expenses with before tax dollars.


FSA / Section 125 Administration

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Premium Only Plans

  • Plan Document
  • Summary Plan Description - (One Original Document per Plan Sponsor - Sponsor is responsible for additional copies)
  • Sample Corporate Board Resolution
  • Plan Administrator's Guide
  • Compliance Reports for Required Section 125 Non-Discrimination Testing
  • Signature Ready IRS Form 5500 (6039D) Fringe Benefit
  • Assistance with New Employee Enrollments and other Ongoing Services as Required Throughout the Plan Year
  • Custom Application & Election Forms

Flexible Spending Account

  • Plan Document
  • Summary Plan Description - (One Original Document per Plan Sponsor - Sponsor is responsible for additional copies)
  • Plan Administrator's Guide
  • Sample Corporate Board Resolution
  • Compliance Reports for Required Section 125 Non-Discrimination Testing
  • Signature Ready IRS Form 5500 (6039D) Fringe Benefit
  • MICR Check Cutting
  • Flexible Claims Processing Schedule
  • Flex Account Statement 60 days prior to end of plan year
  • Employee Enrollment Meetings (fees quoted as needed)
  • Employee Enrollment Confirmation Letters
  • Custom Application & Election Forms

FSA / Section 125 Requirements

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Basic Flex Trac

Definition and General Implementation Requirements

A Cafeteria Plan is a written plan under which all participants are employees and may choose among two or more benefits. These benefits must include cash and other qualified benefits.

Employees must choose among the options prior to the effective date of the plan. Elections must be irrevocable, except in the event of a Family Status Change. The plan must comply with certain nondiscrimination rules and regulations.

The following pages offer an outline of each Topic regarding the Basic Flex Trac. See Training Classes for more information on a detailed seminar available to your organization.

  1. Documentation

    1. Plan Documentation:
      There must be a written, signed, legal plan document, detailing the benefits offered under the plan.

    2. Summary Plan Description:
      Each eligible employee must be provided with a Summary Plan Description.

    3. Salary Reduction Agreement:
      Each eligible employee must be given the opportunity to participate.

  2. Plan Administration

    1. Premium Only Plan

      • Documentation

      • Salary Reduction Agreement

      • Non-Discrimination Testing

      • Status Change Forms

      • 5500 Filing

    2. Full Flexible Benefit Plan

      • Documentation

      • Educational Material / Group Enrollment Meetings

      • Salary Reduction Agreements

      • Non – Discrimination Testing

      • On-going management of payroll & Claims payment

      • Status Change Forms

      • Year End Statements

      • 5500 Filing

      • Groups offering Dependent Care Reimbursement accounts should supply participants with the form 2441

  3. Year End Compliance and Reporting Requirements

    1. Form 5500

      • Who must file?

      • When Should Form 5500 Be Filed?

      • How do I determine whether to file a Form 5500 or a Form 5500 C/R?

    2. Year End Compliance – (Non-discrimination Testing)

      • When Should Testing Be Done?

      • What Tests Should be Run?

      • Cafeteria Plan Nondiscrimination Rules

      • Medical Reimbursement Plan Nondiscrimination Rules

      • Dependent Care Assistance Plan Nondiscrimination Rules

  4. COBRA/HIPPA Requirements

    1. COBRA

      • New Proposed Regulations (issued by the IRS on February 3, 1999) provide an exception from having to offer COBRA to some, but not all, Health FSA Participants.

      • If the Health FSA satisfies two conditions, then the Health FSA need only make COBRA available to a qualified beneficiary for the plan year in which the qualifying event occurs and not for subsequent years.

    2. HIPPA

      • Health FSAs funded entirely with employee salary reduction contributions will be exempt from HIPAA if other significant health coverage is available to participants. Health FSAs funded by employer contributions will generally not be exempt.

      • Health FSAs Must Satisfy Two Conditions To Be Exempt: Plan sponsors and administrators should review their Health FSAs to determine whether HIPAA applies. If HIPAA is applicable, HIPAA certificates of creditable coverage must be issued.

  5. Status Change Regulations

    1. General Rule – A Cafeteria Plan must provide that participant elections are irrevocable for the period of coverage (generally the plan year). There are certain exceptions to the irrevocability requirement.

    2. New Regulations – On November 7, 1997, the IRS published the new change-in-status guidance in the form of temporary and proposed regulations 62 FR 60165 and 62 FR 60196. The new regulations are generally effective for plan years beginning after December 31, 1998.

    3. Unlike the current regulations which merely provide examples of change in family status events, the new regulations seem to provide an exhaustive list of categories of permissible events. The IRS has indicated that if an event does not fall within of the enumerated categories it will no longer qualify as a change in family status event once the new regulations become effective.

    4. On November 23, 1998 – IRS Announcement 98-105 said that it is delaying the effective date of the new change in status rules until the first day of the plan year that begins at least 120 days after the IRS releases further guidance. This means that the new rules would not be required until 2000 for a calendar year plan.

    5. New rules apply to accident and health coverage and group term life insurance coverage. Note that dependent care assistance plans are excluded. The old rules will still apply to these plans.

    6. Consistency Rule – If a change in status event occurs, employees are allowed to make changes consistent with the event. The new regulations clarify (and limit) the election changes that will be consistent with the event.

  6. Eligible/Ineligible Benefits

    1. Eligible Benefits

      • Coverage under an accident or health plan, to the extent that such coverage is excludable from income under Code 106

      • Benefits under a dependent care assistance plan under Code 129

      • Group term life insurance (GTL") Coverage

      • Paid vacation days

      • 401 (k) deferrals

      • Certain contributions for post-retirement life insurance by covered employees of educational organizations

      • Adoption assistance under Code 137

    2. Ineligible Benefits

      • General Rule – Code 125 prohibits cafeteria plans from offering any benefit that "provides deferred compensation."

      • Qualified Scholarships – Benefits under Code 117

      • Educational Assistance Programs – Benefits under Code 127

      • Fringe Benefit Programs – Benefits under Code 132

      • Dependent GTL Insurance – For plan years ending after December 31, 1991

      • Medical Savings Accounts

      • Long Term Care Insurance

  7. Eligible/Ineligible Participants

    1. Eligible Participants

      • Common-Law Employees

      • Controlled Group Rules – All employees who are treated as employed by a single employer under Code 414(b),(c) or (m)

    2. Ineligible Participants

      • Self-Employed Individuals

      • Partners In a Partnership

      • A 2% More Shareholder in a Subchapter S Corporation

      • Outside Directors, Limited Partners, and Limited Liability Companies (LLCs)

  8. Non-Compliance Consequences

    1. The IRS has established the Industry Specialization Program (ISP) which held an Industry-wide meeting in October of 1998 in Dallas. They have established a preliminary draft of the IRS Examination Guidelines for Cafeteria Plans.

    2. The IRS is frequently asked whether audits will be based on the Internal Revenue Code alone, or whether the terms of the proposed regulations will also apply. Based on the preamble to the 1989 proposed regulations, it is clear that the IRS will apply the proposed regulations in auditing cafeteria plans.

    3. The IRS is increasing their awareness of cafeteria plan issues through increased training, undoubtedly, increased audit activity will follow.

    4. The potential penalty for failing to comply with the Code 125 legal requirements could be egregious – including the imposition of income taxes against the employer and/or employees, employment taxes, and penalties for failing to withhold and report taxes properly.

    5. The following is a list of violations:

      • Failure to adopt cafeteria plan

      • Noncompliance with Code 125 irrevocable election requirements

      • Inclusion of ineligible benefit

      • Failure to file Form 5500 required by Code 6039(d)

      • *Penalty of $25 per day (up to $15,000 per return)

      • Failure to pass non-discrimination requirements applicable under Code 125.


FSA / Section 125 Cafeteria Plan Compliance Checklist

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Please use the information below to determine if your Cafeteria Plan is in compliance with Section 125 of the IRS Code.

  • Written, signed Plan Document. This document details the benefits offered pre-tax under the Plan, requirements for eligibility, participation, termination of employment, and other required language.
  • Summary Plan Description. This must be provided to ALL eligible employees and new hires, as they become eligible for the Plan. This SPD has specific required language, including name and address of Plan Administrator, person to contact in the event of questions or complaints concerning benefits under the Plan, etc. It must be written in such a way that the average employee can read and understand it.
  • Form 5500 (C/R if under 100 participants). This form must be filed each year with the Internal Revenue Service for a "fringe benefit plan" under Section 6039(d) of the IRS Code. (There are NO EXCEPTIONS!)
  • Irrevocable election forms. These must be signed by the employees electing to participate in pre-tax benefits, explaining to them that they are reducing their contribution to Social Security by the small amount of the premiums they are electing to pay tax-free. The employees must not be allowed to make changes to the plan benefit elections during a Plan Year, unless they have what is known as a "qualified status change". Qualified status changes include marriage, divorce, birth, etc.
  • Non-discrimination testing. There must be testing performed at least one time per Plan year as required under IRS Code Section 125. This testing is called "non-discrimination testing", and ensures that the plan stays in compliance with the requirements of the Codes. These tests, along with the requirements listed above, should all be maintained in an "audit file" in the client's office, in the event of a future IRS audit on your Plan.

FSA Eligible Exp

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Download Eligible Out-of-Pocket Medical Expenses PDF file.