June 3, 2008
Congress Passes Legislation Affecting Health Flexible Spending Accounts (FSAs)
On May 22, 2008, Congress passed the Heroes Earnings Assistance and Relief Tax Act of 2008 (the “Act”). President Bush is expected to sign the Act. The legislation is effective immediately upon enactment.
Among other things, the Act amends Section 125 of the Internal Revenue Code (the “Code”) with respect to health flexible spending accounts (“health FSAs”). Specifically, the Act authorizes health FSAs to provide “qualified reservist distributions.” It does not require them. As a result, to provide such distributions, a plan sponsor will have to amend its cafeteria plan. Depending on when an employer wishes to begin providing such distributions, such an amendment could be made before, coincident with, or after the amendment to the plan for the final cafeteria plan regulations.
“Qualified reservist distributions” are distributions of all, or a portion, of the health FSA account balance of a participant who is a reservist called to active duty for at least 180 days, or for an indefinite period. The distribution may be made at any time during the period beginning on the date on which the call to duty occurs and ending on the last date on which reimbursements may be made for the plan year in which the call to duty occurred (i.e., the last day of the claims run-out period following the end of the plan year). Because the distribution is not provided to reimburse the participant for eligible medical expenses, the distribution will be included in the participant’s gross income.
The legislation leaves open a number of issues with respect to these distributions, including:
- Coordination with grace periods and run-out periods;
- Coordination with COBRA;
- Application of the irrevocable election rule;
- Coordination with other exceptions to the irrevocable election rule;
- Who may request such distributions (i.e., only the employee/reservist or his/her spouse and dependents too); and
- Application of the uniform coverage rule (i.e., whether the account balance from which the reservist may receive a distribution must be determined based on the uniform coverage rule (i.e., the entire election for the plan year minus prior reimbursements), or whether the distribution can be limited to the amount actually contributed by the participant (minus prior reimbursements).
Presumably, these issues will be addressed in regulations or additional guidance issued by the IRS. Until the issues are resolved, employers should proceed cautiously and should discuss the issues created by adding qualified reservist distributions with their counsel. Under the proposed cafeteria plan regulations, a failure to follow the regulations disqualifies the plan as a cafeteria plan. Accordingly, administering these qualified reservist distributions in a manner that violates any other cafeteria plan rule could have significant consequences.
Please let us know if you would like to discuss these issues or would like assistance drafting an amendment to your plan.
___________________________________________
The information contained in this ALERT is intended for general information purposes only and does not constitute legal advice relative to a specific situation.