Proposed regulations provide guidance for cafeteria plans
By Rob Smith, Ceridian manager of Government Relations
On August 6, the Treasury Department issued new proposed cafeteria plan regulations under Section 125 of the tax code. Cafeteria plans (also called Section 125 plans) allow employees to withhold a portion of their pre-tax salary to cover qualified health and child care benefits. These include pre-tax health insurance premium deductions as well as health and dependent care flexible spending accounts (FSAs). For employers, these plans generally carry low administrative costs, and their tax-free status reduces the amount of FICA and Social Security taxes employers pay on employee wages. The same tax-free treatment helps employees' dollars go 30 to 40 percent further for purchasing qualified benefits. IRS consolidates guidancePrior to the new proposed rules, the IRS had taken a piecemeal approach to issuing cafeteria plan guidance, forcing employers to rely on an unclear set of rules that were difficult to navigate. In fact, the fundamental cafeteria plan guidance was issued as proposed regulations in the 1980s, but never finalized. Fortunately for businesses and employees, the IRS plans to replace these unclear rules with a consolidated, organized set of rules that takes into account changes made in the intervening years. It also provides plenty of definitions and examples of how cafeteria plans should be administered. The IRS expects to finalize the rules by January 1, 2009, but it has stated that employers can choose to rely on them immediately. On balance, new rules a plus
These new rules should be particularly helpful for businesses that are considering offering a cafeteria plan or FSAs. Although the new regulations make few substantive changes, they clarify many issues regarding cafeteria plan administration. Highlights include:
- General election rules.
- Clarification on which benefits can be offered.
- Guidelines on who can participate.
- Substantiation requirements for FSAs.
- Nondiscrimination testing guidelines.
- FSA debit card rules.
- Written plan document elements.
- Grace period and runout period standards.
- Use-it-or-lose-it rules and how to handle forfeitures.
- Special rules for orthodontia expense substantiation.
- Limited-purpose health FSAs.
States start mandating cafeteria plans
The new rules help businesses and employees navigate cafeteria plan requirements and solidify their evolving place among employee benefits. The new rules also may play a large role in state governments' efforts to cover the uninsured. The U.S. Census Bureau just announced that the number of Americans without health insurance rose by 2.2 million from 2005 to 2006.
