In a recent blog, we discussed the need for employers with non-calendar year health FSAs to act now to implement the new $2,500 FSA limits imposed under health care reform. Thankfully, recent IRS guidance eliminates these concerns.
The Patient Protection and Affordable Care Act requires plan sponsors to limit pre-tax health FSA contributions to no more than $2,500 for “taxable years” beginning after December 31, 2012. This author, and many others, mistakenly (but I would argue rationally) believed that “taxable year” referred to the participant’s taxable year, which is generally the calendar year. If that were the case, the new limit would generally become effective January 1, 2013 regardless of whether the FSA is a calendar year plan or a non-calendar year plan. Thus, we advised employers with non-calendar plan years to begin devising a strategy for complying with this new requirement during the transition plan year that begins in 2013.
In Notice 2012-40, the IRS issued welcome guidance clarifying (1) the $2,500 limit does not apply for plan years that begin before 2013, and (2) the term “taxable year” refers to the plan year of the cafeteria plan rather than the participant’s taxable year. Thus, the new limit applies as of the first plan year beginning after December 31, 2012, and applies on a plan year basis. For example, an employer whose FSA plan year runs from July 1 to June 30 would not have to begin administering this change until July 1, 2013, and the $2,500 limit would apply to contributions made between July 1, 2013 and June 30, 2014. So, employers with non-calendar year plans can take a deep breath, ignore our previous guidance, and check off one more health care reform concern.
In addition to this welcome guidance, the IRS also clarified the following regarding the new $2,500 FSA limit:
- The deadline for adopting amendments reflecting the new $2,500 limit is now December 31, 2013.
- For plans that provide a grace period, unused salary reduction contributions to the FSA for plan years beginning in 2012 or later that are carried over into the grace period for that plan year will not count against the $2,500 limit for the subsequent plan year.
- If an employee is allowed to elect salary reduction contributions in excess of the $2,500 limit, the cafeteria plan will continue to be a Code Section 125 cafeteria plan for that plan year if:
- the terms of the plan apply uniformly to all participants;
- the error is the result of a reasonable mistake by the employer, and not willful neglect; and
- the excess amount is paid to the employee and reported as wages on the employee’s Form W-2.