I just resigned and my employer is deducting the rest of my annual allocation for Sect 125 plan. Can they do that?

[Guest dprocket]

I understand the "use it or lose it" rule with Section 125 plans. However, I just recently turned in my 2 week's notice at my employer. My boss informed me that on my final paycheck, they will be deducting an addition $180 from my paycheck to bring my total Section 125 allocation up to $480 (what I had originally allocated). I understand that if I don't use the Section 125 money, I lose it...but in this case, the money is not there yet. So, effectively my employer is putting my money into the plan so I will then use it. Has anyone heard of this? Can they do this?

[MGB]

They cannot do this (according to the IRS and most reputable FSA administrators and consultants). Having said that, there are a lot of adminstrators, lawyers, consultants, etc., that are running around pushing the type of arrangement that you are getting stuck with. Until someone sues and this is settled in the public arena, they will continue to try and get away with this.

The issue is risk. In order for the FSA to be tax qualified, the employer must be at risk for losses due to terminations of employment. It is the employer that must fund the other $180 and you get to use it. Employers don't like that, so they push the rules and try and collect the $180 from you. But, it is not legal for them to do so.

Unfortunately, there are a LOT of people pushing this recapture against the employee idea. One of these days, these people need to read the law and regulations. There are a number of other threads on this board on the same subject.

[Guest dprocket]

Thank you very much for the information. You confirmed what I had THOUGHT was true. Now, that leads me to another question. Since they are taking my $180, does that mean I can spend $180 later in the year? I won't be employed by them at that time, so I would think not.

My next decision is whether its worth it to fight with them over $180. I don't understand why they would do this, because my boss and I have a very good relationship. Oh well.

Where can I find documentation on FSAs? The website for our 125 administrator has virtually no information on it.

[E as in ERISA]

Ask for a copy of the plan document.

[KJohnson]

I am not sure the answer is completely black and white. They clearly cannot take the money out of the last paycheck of only those employees with negative account balances.

However I think the IRS' informal guidance is as long as they take the remainder of the year's election out of everyone's paycheck (regardless of account balance) you have at least satisfied uniform coverage. Harry Beker the IRS "guru" on 125 Plans has said exactly that on several occiasions. I think there still may be issues beyond uniform coverage (including the "risk" issue mentioned by MGB) as disussed in this link:

http://benefitslink.com/boards/index.php?showtopic=24743

However, given the IRS' informal statements in the past like:

In fact, there is a way to get at the last paycheck

if the 125 Plan states that the entire election will be taken out of the last paycheck without regard to a positve or negative balance, then I don't think the IRS will have much to say about it.

However, if they are taking the $180 out of your last check I think it does mean that you can spend your $180 later in the year.

[Guest JerseyGirl]

If you were not provided with a copy of the Summary Plan description (SPD) at the start of the plan year (which is a legal requirement) ask to see it now. It should contain information on how this situation and others are to be handled.

I am unclear on one point; is the employer withholding the remaining portion of your annual election to recoup reimbursements you have already received (illegal, in my opinion) or is the intent to pre-pay with what is still pre-tax money, the balance of the years contributions so as to allow you to continue to participate through the end of the plan year? If you will gain the opportunity to *use* the balance of your contributions, it may not be a bad thing. You did say you had a good relationship with the boss prior to now.

[Guest ActuaryWannabe]

Just thought I would mention that this topic was brought up in the Section 125 Q & A Column on Benefitslink. The link is here.

[KJohnson]

The EBIA manual also mentions the possible COBRA issues that is referenced in the A.W. link. You have possible state law issues regarding the ability to withhold form the last paycheck s and of course there is MGB's "risk" issues. Some may say the fact that there may or may not be enough in the last paycheck to cover the election for the year is sufficient risk.

As noted by J.G's post and A.W.'s link if they have taken the remainder of the annual election out of your last paycheck that means that you are an active participant for the remainder of the plan year and expenses incurred after termination are eligible for reimbursement. What they absolutely cannot do is take your money and have an expense "cut-off" at the date of termination.

[mbozek]

Requiring employees to pay the remaining amount of the annual salary reduction contribution agreed to by the employee from the last paycheck is inconsistent with the provisions of the proposed reg 1.125-2 Q-7 that state that the employer cannot shift substantially all of the risk of loss in the FSA to the employee, since the employer would only be at risk for claims of deceased employees. Statements by IRS officials at public meetings are alway accompanied by disclaimers that they are rendering their own opinions and not that of the IRS.

Second taking the payment out of the employee's last paycheck could violate state labor laws limiting the amount that the employee can deduct from the employee's paycheck. ERISA may not prempt state law because the FSA plan may not be regarded as an employee benefit plan under ERISA.

[Guest dprocket]

Thanks everyone for the information.

It certainly sounds like I'm getting screwed. My annual allocation is $480. So far, year to date I've deposited $300.00 in the FSA and made claims of 191, giving me $89 to spend. Since I'm leaving in a couple of weeks, I figured most likely that money would just go bye-bye unless I went and bought some new glasses or something. Now, my employing is insisting that he take and the additional $180 to bring the deposit up to my allocation of $480. I've also been told that I can use this money and be reimbursed, but it has to be while I am still employed. In other words, I have to have the expense in the next two weeks in order to be reimbursed for it. I've called the plan administrator and the lady told me "they're not supposed to do that" and so I'm hopefully getting some additional information coming my way.

It's not that big of a deal, but to me it is a matter of principle. Employees take on a risk with the "use it or lose" nature of the 125, and the employer takes on risk in case employees spend money before contributing. I can understand if I was abusing the plan or something, but in a sense I'm being forced to not only take on ALL the risk but also being heavily penalized for participating in the plan.

[KJohnson]

I think everyone would agree that the employer cannot do what it is purporting to do.

MBOZEK--What is the argument that an FSA is not a welfare plan under ERISA? I could understand someone at least arguing that a law which makes it a crime to take amounts out of an employee's check without his or her permission is a criminlal law of general applicablity-- exempt from preemption. I am not sure I understand the non-ERISA plan argument.

[MGB]

There is another twist to this issue. The "period of coverage" ends upon separation of employment. Expenses after that point will not be eligible for reimbursement. However, the period of coverage can be extended through the end of the year through a COBRA election. Given that he has already paid the amounts needed for the COBRA election, he should go ahead and use it. That way, he can still submit expenses incurred through 12/31 and wait until the end of the year to see if he needs to buy the glasses.

[Guest dprocket]

MGB, the only problem with this is that the company I am leaving is very small, under 20 employees and so therefore probably does not have a COBRA plan. At least I think they don't. I'll have to ask.

[KJohnson]

MGB--Not doubting its there, but what is the cite for the notion that a period of coverage must end with the separation from service? I realize that it is a change in status which, if the plan allows it, permits a participant to revoke a previoius election during a period of coverage. However, I was not aware of language that mandated a period of coverage end with a separation from service. I do agree with your conclusion that he should be able to claim expenses incurred through 12/31 (assuming a calendar year plan).

[mbozek]

KJ: There is no definite authority for concluding that the the employer cannot make the employees pay for the entire cost of the plan by assessing the amount due for the year at termination because the risk shifting requirement of Q-7 is only a proposed reg which cannot be enforced by the IRS. The requirement that all participants must pay their entire contribution for the year is consistent with the non discrimination provisions of IRC 125 which is why some advisors have opined on the legitimacy of this approach.

Also some advisors believe that a 125 plan is not subject to ERISA becaue only contribuons are collected by the employer - The benefits are provided under a separate health plan.

[KJohnson]

O.k.--It was your prior reference to the FSA that threw me off. I don't think there is any way around an FSA being an ERISA plan. However, I can at least see someone arguing that the last paycheck was not "taken" pursuant to the FSA but pursuant to the 125 plan. I agree that the 125 plan itself is simply a funding mechanism for underlying ERISA benefits and would not be an ERISA plan in itself.

[MGB]

KJohnson,

Look at the following Q&A from the ABA/Treasury (from http://www.abanet.org/jceb/2002/qa02irs.pdf )

The answer would not make any sense if the period of coverage continues after March.

2. §125 – Cafeteria Plan

An employee terminated in March and had already been a participant in the cafeteria plan but

hadn't used up her entire medical expense account. This employee was rehired in October. The

plan document states that she cannot reenter the plan until the next plan year, which starts on

January 1. Can she use the money that is still in her medical expense account for claims she

incurs after her rehire date?

Proposed response: No. Contributions for one period of coverage cannot be used to reimburse

the participant for expenses incurred during another period of coverage, even if they are in the

same plan year.

IRS response: The IRS agrees with the proposed response.

[KJohnson]

I agree that would seem to be the conclusion that you would come to under the language of that ABA Q&A, but I didn't see any direct support in the regs for such a definition of period of coverage.

I guess you could read more into the Q&A and come to the conclusion that the termination of employment was a change in status revoking the election and it is actually the revocation of the election that ends the period of coverage. On the other hand a plan with the "last paycheck rule" will neither mandate hor allow the terrmination of employment to be a change in status revoking the election and therefore the period of coverage continues.

[Alf]

It doesn't sound like you fully understand your rights. If you elected $480 for the year, the availablity rule requires that this total amount is available for reimbursement until the day you terminate, even if you haven't paid all of it in yet. So you should incur expenses and file reimbursements for the $289 left. Then, there is an issue about whether they can take the remaining $180 out of your final check. I would have to say that the consensus on this board is no, but you need to check the plan and spd because those will control (generally). Also, the COBRA election suggestion is another great way you can preserve your rights to incur qualifying expenses beyond your termination date (plus this has the added advantage of really messing most adminitrators and employer up because it is a hassle to deal with).

So, you can take it out on your employer by spending the remaining $480 before you have even paid it in and by electing COBRA if you have any problems incuring the remaining $289 before you terminate.

I predict, you will get to walk with an extra $180 of free reimbursements if you make a big enough stink.

[Guest dprocket]

Thanks everyone for the suggestions. I think I've got it figured out now, after talking with our plan administrator.

A little note, that you may or may not be aware of. As part of the "consistency rule", the employer must take deductions for any vacation/pension money paid out. So, in my case I have roughly 2.5 pay periods worth of vacation being paid to me, so my employer must take deductions from that money, in the amount of a normal pay period deduction.

Thanks again everyone for your knowledgable responses!

[GBurns]

What "consistency rule" are you making reference and connection to?