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Section 125 Cafeteria Flexible Spending Accounts

The 125 cafeteria plans were designed to provide employees with the opportunity to pay health insurance premiums, certain medical expenses, and child care with "before tax” dollars. The plan has to be established by the employer in compliance with provisions of IRS Section 125.  Annual reporting must be completed on a form 5500 in a timely manner, based on the size of the plan. Each employee must complete and sign an election form at the beginning of each plan year or whenever a qualifying event occurs. There are three parts to a 125 program that can be established separately or together at the whim of the employer.

The premium only plan (POP) is the most simple. Once put in place by the employer the employees can elect to reduce their income by the amount of premium they are required to pay for medical, dental, and vision insurance. By so doing the amount of FICA, Federal and State taxes they would otherwise pay is reduced. Once the election is made, the employer must use that money to pay the full premium for the three benefits. There is no reporting. The employee election would be altered each plan year or whenever there is a change in the amount of the premiums.

The Flexible Spending Account (FSA) is just a bit more complicated. It requires that the employer maintain its fiduciary duties with regard to the contributions/elections made for the FSA Plan. Once the FSA is established by the employer, employees can, once each plan year, elect to reduce their income by the amount they believe they will use in the next twelve months on un-reimbursed Section 213(d) medical expenses. The money is placed and held into the account established by the employer (or by a TPA). Most employers hire an administration service to maintain compliance, adequate recordkeeping and privacy for their plan participants.

The account is usually credited on a per payroll basis. (If the employer has 26 payroll periods per year, then 1/26th of the annual amount would be placed into the account each time.) The employee can use the funds to pay for personal medical expenses or those of dependent family members. The expenses must have occurred only after the beginning of the plan. The employee has to present to the Administrator proof of the expense in order to be reimbursed. It is the obligation of the Administrator to insure that the expenses qualify under the controlling law. A 5500 report must be filed each year on the account and the participants (if over 100 participants). Any unused portion of an employee's account at the end of the plan year will be forfeited and returned to the employer. This is referred to the "use it or lose it” rule. Any employee electing to participate in an FSA must choose carefully the amount to place into the account. However, recently legislation now allows the employer to amend their plans to allow a carryover of FSA funds to the next plan year (up to $500).

Notice to the employer: the participating employer could be obligated to pay some or all of the benefit of an FSA. Example: An employee elects to place $1,200 into the account each year. After one month, the account would have in it $100. At that time, the employee experiences medical expenses that would require the entire $1200. Since there is only $100 in the account, the employer would have to advance the $1,100 balance. This is required without any guarantee that the full $1200 would ever be placed in the account. As long as the employee remained on the payroll for the balance of the year, the loan would be repaid. But, the employee could leave the company for any reason at any time and would not be required to pay any unpaid portion of the loan.

The Dependent Care option is very simple. As with the FSA, the employer must establish a plan and create an account with a fiduciary. Once the plan is established employees could elect to reduce their income by the amount of their child care. The money would be placed into the account. The employee is required to present a receipt for the expense and would be reimbursed. Since child care is not paid in advance, only the amount that was place into the account each month could be withdrawn in a month. It is not possible to spend more than is in the account.

A Section 125 cafeteria plan is always established at the employer's discretion.  It provides TAX SAVINGS for both the Employer and the Employee - significantly reducing payroll taxes. All expenses associated with the establishment and administration of the plan is the obligation of the employer. All reporting is the responsibility of the employer.

QUESTIONS? Please contact us at MBA Administrators – 208.888.2626

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Tags: FSA  Flex Plan  Section 125 plan 

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