FSA salary reduction capped at $2,500 starting January

Flexible Spending Accounts have long helped individuals and families save money by reducing income taxes. But changes to his popular benefit are set for January. As the changes are adopted, it will be important for you to get up-to-date on all the new developments.

Under the Patient Protection and Affordable Care Act (PPACA), a new $2,500 limit will be imposed on salary reduction contributions to health FSAs.

FSAs are popular perks that allow employees to divert income on a pre-tax basis to an account that they can use to buy certain services, including health care. They are particularly useful for employees who have regular health expenses that they incur each year, since they allow them to buy these needed health services with pre-tax dollars.

Under current law, salary deferral contributions to these arrangements were unlimited by the tax code. Employers had the discretion to set caps wherever they wanted. The new $2,500 limit applies to all FSA plan years beginning after December 31, 2012. Congress currently intends to adjust the cap each year along with the cost of living, beginning with plan years beginning in 2014. The cap is one-size-fits all, no matter how many dependents you have.

The cap only applies to salary reduction contributions to health FSAs. It does not apply to the worker’s contributions, nor does it apply to health reimbursement arrangements, HSAs, child or dependent care assistance, etc. The caps are specific to health flexible savings arrangements.

Earlier this month, the Internal Revenue Service issued a clarification on how the new caps will affect existing plans. Notice 2012-40 establishes that the new caps don’t apply on plan years beginning this year or last.

If your plan has a grace period, salary contributions that aren’t spent during the formal plan year don’t count against the next year’s contribution, according to the notice. The cap only applies to new contributions, not hangover balances from plan year 2012. However, the ‘use it or lose it’ provisions of FSAs still apply – balances left unused after the employer-designated grace period, which can last up to two and a half months after the end of the plan year, are forfeited.

The IRS also assured employers that if an employer accidentally allowed a contribution greater than $2,500 in a new plan year, in violation of the cap, it would not necessarily result in the IRS disqualifying an entire Section 125 plan. Employers just have to pay the excess back to the employee and include the coverage in the employee’s taxable income for the year. If the plan year is less than 12 months, the $2,500 cap is prorated accordingly.

For more information on healthcare reform issues, please contact the employee benefits department at Gunn Mowery at 1-800-840-1243, or email us at info@gunnmowery.com. You can like us on Facebook at Facebook.com/GunnMowery.

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Gunn-Mowery accepts no liability for the content of this blog post, or for the consequences of any actions taken on the basis of the information provided, unless that information is subsequently confirmed in writing. If you are not the intended recipient, you are notified that disclosing, copying, distributing, or taking any action in reliance on the contents of this information is strictly prohibited. Gunn-Mowery provides attributed content for your continued awareness and convenience. Content that appears is not intended to substitute for binding insurance advice.

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