Bob R

Not sure if the JCEB Q&A is on point. I suppose it's authority that the person is terminated - so the person is terminated for purposes of being an eligible employee. I have no problem deferring out of the last pay check even though it may include some pure severance pay. But, I wouldn't allow deferrals out of the continued severance payments b/c the person is no longer an eligible employee. The proposed 415 regs can be relied upon (and would require an amendment), but they wouldn't help you b/c they don't permit deferrals on pure severance pay, even if paid within 2 1/2 months. The good news is that there is no formal IRS guidance on this other than the proposed 415 regulations. Absent the regulations, severance pay is compensation under the terms of the plan, and the only issue is whether the person is "eligible" to defer.

There isn't anything out there that specifically addresses this. However, I don't think you can change it mid-year.

I don't believe the statute prohibits this. I can design the plan to exclude whomever I want as long as it's non-discriminatory. So, it would be a matter of testing to make sure the plan is not discriminatory as to eligibility. Below is from Code Section 129: (3) Eligibility The program shall benefit employees who qualify under a classification set up by the employer and found by the Secretary not to be discriminatory in favor of employees described in paragraph (2), or their dependents. If I exclude those who have no dependents, the issue is whether that's a nondiscriminatory classification. I'd use the rules under code section 410 (the portion of the average benefits test relating to nondiscriminatory classifications). Even if this exclusion is nondiscriminatory, it's not perfect - as you pointed out some NHCEs with dependents won't participate. But, I guess you do save on the payroll taxes for the HCEs even though there is no income tax savings. However, the payroll taxes won't be a significant amount since the HCEs probably earn over the TWB. And, the employer payroll tax savings may be offset by the chaos of trying to figure out how you correct the failed test.

Allowing a change in status elections on a health FSA is something that has always troubled me. I understand the fact that many employees won't elect to participate if they are locked into an annual election. However, it's just not clear how you handle a change. For example, suppose someone elects $1,200 for the year. After 6 months the employee elects to go to $0. Presumably, if the employee had incurred $1,200 of expenses, the employer is out $600. This may be theoretical as many people haven't experienced this situation. What's more likely is that employees don't really understand how the rules work. Or, they understand but they don't want to stiff the employer if they are still working there. But, suppose the employee wants to increase a prior election mid-year (e.g., in my example he/she wants to increase to $2,400 in July). Is the amount taken out per month beginning in July $200 or is it $300? I believe some folks at the IRS considered this 2 periods of coverage whereby a person could get reimbursed $1,200 up to July and could get reimbursed $2,400 after July. That never made sense to me - so assuming the increase to $2,400 really means $2,400 less up to $1,200 of any claims paid prior to July, then charging $300/month seems to make economic sense. $100 X 6 for the first 6 months = $600 and $300 x 6 = $1800 which totals $2,400 for the year.

That may be true - but the original question stated that the same elections would be made. I took this to mean that the elections made in the adoption agreement are elections that ensure there are no coverage and discrimination issues that need testing (which I stated in my prior post). The point is that if you make the right selections in the adoption agreement, you can end up with a plan that has the same reliance as a standardized plan and doesn't require any additional testing beyond what would be required with a standardized adoption agreement. Thus, the nonstandardized plan can give you everything a standardized plan can get you - plus it can cover those plans where more flexibility is needed. It's just that if you go with some of these additional options, you might have additional testing and possibly higher admin fees. For a TPA, there's no reason to offer both. For an institution, it may still be advantageous to offer a standardized adoption agreement that doesn't permit flexible plan designs thereby minimizing testing.

If the employer only has 1 plan, then there is no advantage to using the standardized adoption agreement. It is less flexible and has more traps for the unwary. And, you can get the same scope of reliance using a nonstandardized plan if you make the same elections (use total comp, don't require EOY/1000 hours to share, don't exclude employees other than union EEs and non-res aliens). If the employer has 2 plans, then currently (this goes away for EGTRRA) you can have 2 standardized plans that are paired with each other. This gives the employer reliance on the language coordinating the 2 plans for top-heavy and 415 (if 2 d/c plans). This is the ONLY substantive advantage of the standardized plan over the nonstandardized plan. From a practical perspective, some may view the standardized as being favorable b/c it's idiot proof. This may be advantageous for DB plans where it's easy to inadvertently create a non-safe harbor benefit forumla. For most people, the standardized adoption agreements will be a thing of the past. However, they will continue to be used by those in the small employer retail type markets where the sales folks want something simple and familiar to them.

Generally, that is correct. There may be exceptions - 411(d)(6) anti-cutback issues may require an earlier adoption. And, you may have a longer period based on the due date of the employer's tax return for the year beginning in 2006. So, it really depends but in most cases, the last day of the plan year beginning in 2006 is a safe date.

I don't think the IRS would require a restatement. However, filing Form 5310 is the only way to know for sure. If you don't restate, file 5310, and get a favorable letter then you're fine. Otherwise, if you don't file you won't know whether a restatement was required until (if) you get audited years down the road. But, I do feel fairly certain that the the IRS won't require a restatement.

Signing the Form 8905 is enough.

I'd suggest getting an opinion on this. I can't tell whether this is a CG or an ASG. But, there is no safe assumption that you can make. In order to perform coverage and nondiscrimination test (including the ADP test), you must know their status. If they are part of a CG or ASG, then they are combined for testing. If they aren't part of a CG or ASG, then testing is separate. So, if you make the wrong assumption regarding their status, then you have not performed the tests correctly.

I can't think of any other solutions - other than one idea I've tossed around. Can you design the plan to exclude employees who have no dependents? Or who have no qualifying dependent care expenses? This would allow you to exclude them from the 55% average benefit test. You'd then have to worry about nondiscrimination as to eligibility. I could argue that this is a nondiscriminatory classification. This would also create additional work to adiminster the plan (i.e., to determine who is eligible). It's food for thought - but I haven't heard of anyone actually trying this approach.

The following is from 1.414(v). The person would not be eligible to make catch-up contributions if the deferral limit is 0%. (3) Catch-up eligible participant. An employee is a catch-up eligible participant for a taxable year if— (i) The employee is eligible to make elective deferrals under an applicable employer plan (without regard to section 414(v) or this section); and

I believe they have a reduced fee based on the size of the member organization. One reason for the high fees is b/c they are a lobbying organization. However, they recognize that TPAs will join if resources and educational materials are provided. You might also look to see whether EBIA has any material on this.

Just to clarify - I misread the original question and was responding to Beltane's comment. I agree that counting all deferrals for the year but only using comp from the hypothetical entry date is impermissible (or at least I'd consider it to be an unreasonable reading of the regulation). But, if you disaggregate the deferrals and test each component plan separately, then I believe the compensation for each respective component could be based on compensation while in such component plan. I think that's a reasonable interpretation. The only other argument is that all deferrals count in the year in which you reach the hypothetical entry date and compensation is for the entire year. I see nothing wrong with this. But, if this is the only correct interpretation, then we've been struggling for years in trying to determine what hypothetical entry date can be used - and in many cases it would be irrelevant. It would only make a difference where the hypothetical entry date would be in a later plan year (i.e., first day of the following PY). Otherwise, who cares when the hypothetical entry date is within the PY if the entire PY must then be taken into account for testing.

I used the health FSA as an example of where pre-funding had been attempted. While there is no risk of loss to an employer in a dependent care FSA (and thus no need for the employer to play the pre-funding game), there is a risk of loss to the participant - which is exactly the issue at hand. If I made an election based on an erroneous assumption, that's my loss - thus there is a risk of loss to the participant, but not to the employer. It probably is not worthwhile to continue the debate. Your position is inconsistent with the change in status regs where it states the new election is for the remaining portion of the period (see below from the regs). © Changes in status -- (1) In general -- (i) Change in status rule. A cafeteria plan may permit an employee to revoke an election during a period of coverage with respect to a qualified benefits plan to which this paragraph © applies and make a new election for the remaining portion of the period (referred to in this section as an election change) if, under the facts and circumstances --

I believe the group submission is that you're taking care of all the employers at once. The volume submitter practitioner has no problem - thus VCP does nothing. It's the employers that have a problem and the group submission is the action to take to clear it up for all employers. Also, regarding the failure to submit by Jan. 31, 2006, is not currently a VCP item. The reason is b/c the failure to meet that date just means that all the employers must update for EGTRRA using the 5-year cycle for individually designed plans. That's not something the IRS wants and I recently heard that guidance will be issued to provide a correction for this situation. I suppose it would involve a sanction to be paid by the practitioner and then the volume submitter will be treated as having been filed by 1/31/06 thereby entitling the prior adopting employers to the 6-year cycle.

One important point. Under Section 17.09 of Rev. Proc. 2005-66, you're still entitled to use the 6 year cycle. And, I'd sign Form 8905 just to be safe. The modifications you make don't sound like items you can't have in a pre-approved plan (it's just that they aren't in the pre-approved plan you used for GUST). Aside from that, if you go under the 5 year cycle, I agree that it doesn't make sense for an off-cycle submission, especially where the general deadline is 1 year after the off-cycle submissions. If there was a spread of 3 or 4 years, then you may want a letter - but that's a very subjective call. And, as you pointed out, there's no telling how long it will take for an off-cycle submission to be approved.

I agree that you can't retroactively change elections. That flies in the face of risk shifting. And, in the example, if you could change it retroactively, what would happen if the person had already spent $600? Don't answer b/c there's no way you can retroactively change an election. However, it is possible to pre-fund a benefit. I don't know if it's limited to the health FSA or not, but one could accelerate contributions. The regulations provide that to the extent you accelerate payments, then the individual is entitled to a refund if coverage ceases and there has been an overpayment. This was a game employers played to reduce the risk of loss. For example, if an employee elected an annual benefit of $1,200 in a health FSA, the employer could take out $1,200 in Jan.; or $600 for Jan. and Feb., etc. The regs prevent this game b/c if $1,200 is taken out in Jan. and the employee stops coverage in the health FSA in Feb., then the employee is entitled to a refund of $1,100. It's similar to a refund of premiums. I suppose in a dependent care program I could do the same thing - here it would be the employee deciding to accelerate it b/c the employer has no risk of loss. But, if 100 is taken out every month and the employee ceases coverage in July w/out incurring expenses, the $600 that had already been contributed is forfeited. There's no way around that.

Personally, I'd like to see a cite supporting either position. I believe the regulation provides that you can treat them as separate plans. On that basis I don't know why you can't treat them as separate plans for purposes of being eligible to defer (thus disregarding comp prior to entry in the hypothetical second plan). However, from a practical perspective, getting this information from the employer is an entirely different matter. That's why I think most people will divide it up based on the plan year in which the 1 year & age 21 condition is met. All deferrals and all comp are recognized for the entire year in which the requirement is met. And, if you want to use the entry date rather than the first day of the PY in which the requirements are met, I think it's consistent to only use deferrals and compensation after that hypothetical entry date.

Summit, It's unfortunate that so many people are anal when responding to questions. It's fairly clear that you know what you're asking about. It's just that some folks seem to take things too literally. Techncially they are correct and it is true that it's very easy to get a wrong answer if the correct terminology, etc. is not used. First, you can require up to 3 years to participate in a cafeteria plan. What GBurns is getting at is that a cafe plan is really just a tax vehicle. It is used to pay for benefits on a tax-free basis. The benefits are covered by other code sections (e.g., 129 applies to dependent care, 105 and/or 106 for health plans, etc.) (Why he doesn't understand what you mean about health and daycare is beyond me - it's obvious to anyone who has been dealing with cafe plans for any period of time). These underlying benefits may have different restrictions on eligibility requirements. While a cafe plan can require up to 3 years to enter, it's very rare to see that in a plan. Generally the range is immediate on date or hire to up to 1 year. You are correct that it can impact SS (for those earning under the taxable wage base) and some other benefits - although QDROPHILE's post about the impact on retirement plans is correct. It depends on the design of the retirement plan. Also, many plans don't permit long-term disability to be paid through a cafe plan b/c it results in taxable payments should the individual be disabled. A small tax savings today for a possible long stream of taxable payments is not a good trade-off. You mentioned the fact that you're locked in for a year. Many people only refer to this rule when discussing health spending accounts or dependent spending accounts. But, it also applies to health insurance being paid through the cafe plan. Unless somone has a qualifying change in status, you could be locked into health coverage for the full year. It's rarely an issue, but I have seen it come up. I think you're on target. Good luck with the research!!

I believe the term was "track" instead of "tack" and the issue relates to whether employer paid premiums must be taken into account in running the test. A very quick example - total premium for individual health coverage is $1,000. To obtain coverage through cafe plan, employee must elect to contribute $400. The question is whether the $600 from the employer paid portion (that is not subject to a cash election) is taken into account in running the 25% concentration test. In other words, do you treat it as $1000 or as $400 (the amount going through the cafe plan). Most people use $1000 in the above example based on informal IRS comments that the individual obtained coverage worth $1000 by paying in $400 pre-tax. Some people only use $400, but they are in the minority.

I agree. There's a (1994?) Technical Advice Memorandum on a similar fact patter. The IRS position is that amending the plan to expand the group who are eligible results in a prohibited cut-back of benefits that violates IRC 411(d)(6).

I'll give it a shot. First, both are considered self-funded health plans under 105(h). But, the primary differences are that the HRA is permitted to have a rollover feature of unused amounts and is not subjet to maximum amount being available at all times (but the employer would probably want that in your situation). Also, while not a big deal in this situation, the HRA can only be funded w/employer contribution; HSA can be both employer and employee contributions. What it boils down to - does the employer want some aspect of consumer driven health care? In other words, do you want to reward those who spend their health care $s wisely? If so, you use the HRA and permit rollovers of unused amounts. If you don't care, then use either the FSA or possibly even consider just a plain self-funded health plan that is neither an FSA nor an HRA. I don't mean to confuse you - but the employer could just underwrite the increase in the deductible with a plain self-funded health plan. There would be no rollover feature and employees won't view it (hopefully) as money that must be spent or it is lost. The employer is just acting like an insurance company - it is covering expenses that are above a certain amount (the deductible) up to the level where the insured coverage kicks in.

You can probably find them in numerous places but here's the IRS cite: http://www.irs.gov/pub/irs-regs/td_9169.pdf

No legal reason that I know of that would prevent it. From a practical perspective, operating a non-calendar year plan that isn't the same as the employer's fiscal year always leads to confusion.