Prohibited reimbursement of health FSA

[Ken Davis]

I'm hoping that someone more knowledgable about cafeteria plans than I (which means everyone else) is able to explain something to me.

Prop. Regs. 1.125-2(b)(4) is truly puzzling to me. I think the middle sentence means an FSA of an employer may only cover premiums for health plans offered by that employer, and not the employer of the employee's spouse or dependents. But what the heck does the last sentence ("This paragraph (b)(4) does not prevent premiums for current health plan coverage (including coverage under a health FSA) from being paid on a salary reduction basis throught the ordinary operation of the cafeteria plan.") mean?

One commentator (in a Tax Management portfolio) stated "However, this rule is not intended to prevent pre-tax payment under a cafeteria plan of premiums under a health plan of the same employer, where the premiums are paid directly by salary reduction instead of from a reimbursement account. While not entirely clear, this prohibition seems to apply to payment of premiums for other health coverage available through the employer maintaining the health FSA plan, as well as another employer of the participant or his spouse." This isn't very clear to me, either. Is he saying that premiums for voluntary dental insurance offered by the employer (the employer also offers medical insurance) may not be reimbursed from a FSA? If the medical insurance premiums are paid through a Premium Only Plan, may the voluntary dental premiums also be paid through the POP?

I hope my questions are clear, but if they aren't you know why!

Help! (from the regulatory language challenged)

Ken Davis

Univ. of South Alabama

[Ken Davis]

Sorry. I meant Q&A-7(b)(4) of Prop. Regs. 1-125-2.

Ken Davis

[jsb]

Think POP portion of the overall cafeteria plan, which can be used to pay the employee's contributions to health insurance on a pre-tax, salary reduction basis. It can pay for any premium that the IRS allows and the employer also permits. I'm not sure why you would use FSA money to pay premiums for coverage through your own employer.

FSA money cannot be used to pay the premiums of another health plan, as noted (eg. the health plan premium through a spouse's employer). Though, of course, FSA funds can be used to cover medical expenses not covered by that other plan. I believe the reference to "... may only cover premiums for health plans offered by that employer..." refers to the allowance that you can use your FSA contributions to pay COBRA premiums through your employer's plan for your qualified dependent who no longer meets the plan's eligibility requirement for coverage as your dependent.

[g8r]

You may find the cite below helpful (it's a thread that touches on the subject). My connection is incredible slow right now, but I'm sure if you search this topic you'll find other relevant threats.

The section of the reg. that you are referring to is one that puzzles everyone. The IRS is clear that a health FSA can't reimburse premiums. Whether this is a correct interpretation of the law is open to debate (at least to me). Nevertheless, it's not worth fighting. Especially because of the last sentence.

My take on the last sentence is the acknowledgement of Rev. Rul. 61-146 which allows an employer to pay for individual health policies with no inclusion in an employee's gross income. Thus, this is a permissible benefit in a cafeteria plan (unless specifically prohibited under 125, 125 avoids constructive receipt over a choice of cash or a non-taxable benefit that the employer could have provided).

So, you have the reg stating that you can't reimburse premiums from a health FSA and you have the issue of how to use 61-146 in a cafeteria plan (i.e., how can insurance can be reimbursed through the normal operation of a cafeteria plan). The answer is you set up a premium payment account. It's just like an FSA except that it's limited to premium payments such as COBRA, individual policies not offered by the employer such as dental, vision, etc.).

Why would someone want to do this in a cafe plan? Because you don't have to worry about the 7 1/2% threshold to deduct the premiums and you save SS taxes and FUTA. What's the hitch? Lots of issues, such as: is the benefit now "employer" provided and therefore subject to ERISA, HIPPA (if 2 people have the same policy then no pre-existing may be imposed, etc.), and COBRA? I suspect you can find more on this by searching the board.

http://benefitslink.com/boards/index.php?s...t=0entry34180