In this edition: The $500 Health FSA Carryover: Details to Consider

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Distributed November 25, 2013

The $500 Health FSA Carryover: Details to Consider
CONEXIS applauds the decision to modify the longstanding "use-it-or-lose-it" rule that was announced recently in IRS Notice 2013-71. We believe this change will spur consumers to enroll in FSAs in future plan years – especially those who have been wary about losing money in the past. And with this change, employers now have even more plan options to consider. If you currently have an FSA in your employee benefits package, please review the details below before deciding if the carryover option fits into your FSA plan design.
Health FSA Carryover Rules
Per IRS guidance, employers are permitted (but not required) to amend their health FSA plans to allow their participants to carry over up to $500 of unused funds into the following plan year. However, health FSA plans may not include both a grace period and the $500 carryover – employers must make that choice and decide whether to include either of these plan features.
The $500 carryover of unused funds does not count toward the maximum amount of salary reduction contributions that the employee may elect. In addition, the guidance did not change the maximum amount of employee salary reduction contributions, which continues to be $2,500 per plan year(this amount may be indexed for inflation in the future) Plus, the modification to the use-it or lose-it rule does not impact dependent care FSAs. Other details are outlined below.
Details to Consider Before Amending a Plan
Carryover The remaining unused amount at the end of the plan year is the amount left over after medical expenses have been reimbursed at the end of the run-out period for the plan year.
An employer must amend its cafeteria plan document.
The plan sponsor may decide not to include this feature.
Carryover Amount Plan carryover amounts may not exceed $500.
The employer may set a carryover amount less than $500.
The carryover limit must be the same for all plan participants.
Employee Salary Reductions FSA plan may allow an employee to elect up to the maximum allowed salary reduction amount under Section 125 (currently set at $2,500).
An employer may set a plan maximum less than the permissible amount.
Employees may elect up to the maximum amount of $2,500, regardless of any carryover amount.
Uniform Coverage Rule This rule continues to apply if the plan includes a carryover, and health FSA funds must be available for claims incurred at all times during the period of coverage.
Incurred Expenses The carryover may be used for eligible expenses incurred during the entire plan year to which funds are rolled over.
  Please note: Notice 2013-71 provides various illustrative scenarios of the possible uses of carryover funds.
Grace Period A health FSA plan cannot include a grace period if the carryover option is included in the plan design.
  Please note: For plans that currently have a grace period, participants should be given ample notification if the grace period is being replaced by a carryover provision. Participants counting on using funds during the grace period may lose money. In addition, employers should be aware of the risk of eliminating a grace period provision that was adopted previously for the plan year. Dropping the grace period and adding a carryover provision during the plan year in which the amendment applies may be subject to non-Code legal constraints.
Unused Funds After the $500 carryover, any funds remaining in a participant's health FSA are forfeited after the plan year ends, or if applicable, at the end of the run-out period.
Unused funds left in the FSA after the carryover cannot be cashed out or converted to another taxable or nontaxable benefit.
When an employee is terminated. funds remaining in an FSA are forfeited (unless, if applicable, the employee elects COBRA continuation coverage which includes the health FSA).
Plan Amendments
Employers must amend their cafeteria plan documents so the carryover provision is adopted on or before the last day of the plan year from which the carryover is applied. The amendment may be retroactively applied to the first day of that plan year (including the current plan year) if the employer complies with all Notice 2013-71 regulations and informs plan participants of the plan changes.
For additional details related to this guidance, please review the full Notice text that's available on the IRS website.
Please note: This communication is not intended to be nor should it be construed by any third party recipient as legal advice. Before making any changes to your cafeteria plan, please discuss these issues with qualified tax or legal counsel.
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