Help! How to Handle Flex Plan Deferrals for Mid-Pay Period Termination

[401 Chaos]

Help. Feel like I should know the answer to this but not sure. We have a flex plan that is set to receive the first 2009 salary deferral contribution with the January 15, 2009 payroll. If a person is terminated prior to January 15th such that they receive some pay for 2009 but not a full pay period check, should the set dollar deferral to the health fsa be made from the partial paycheck the same as normal, should it be adjusted pro rata or should it be canceled altogether?

This becomes much bigger issue because if no amounts go into the flex account, presumably the employee would not have a positive account balance for 2009 and I guess arguably would not have to be provided COBRA. Employer here is worried that terminated employee would elect COBRA if offered so that they could take advantage of full year's reimbursement amount with just one month's COBRA deferral.

Even if no portion of the partial paycheck would go to the flex plan account (or wouldn't have anything in the account at the time of termination), I worry about not providing the individual COBRA rights in this case. Although the Plan speaks in terms of only offering COBRA if the individual has a positive account balance at the time of termination, the participant here would not have overspent their account--their account balance would simply be zero--no amounts in / no amounts spent. Would appreciate any insight or tips on how have others dealt with this issue. Thanks.

[J Simmons]

If a person is terminated prior to January 15th such that they receive some pay but not a full payperiod check, should a set dollar deferral to the health fsa be made from the partial paycheck the same as normal, should it be adjusted pro rata or should it be canceled altogether.

The salary reduction election signed by the EE probably gives the ER no wiggle room on this, and probably does not mention what happens if the EE only works part of the pay period. If so, then I would think you reduce the pay by the specific dollar amount. Also, the ER probably has some precedence set in its practice with other EEs that have previously terminated in the middle of a pay period with a salary reduction election in place. I don't think you can vary from that precedence so as to deny someone COBRA rights, and I don't know what other purpose you could posit for a variance in the first pay period of a cafeteria plan year.

Employer here is worried that terminated employee would elect COBRA if offered so that they could take advantage of full year's reimbursement amount with just one month's COBRA deferral.

No good deed goes unpunished. The IRS regs on this point prove this axiom for ERs that offer tax savings to EEs through health flex accounts.

[401 Chaos]

John,

Many thanks. All that confirms my thinking as well. I suppose in some cases a participant might leave so early in a pay period that there would not be enough wages earned to offset the flex plan deposit (as well as other applicable deductions, etc. after taxes withheld) so I wonder if there would be any particular ordering or priority as to which deferrals to satisfy first. I have not attempted to research that because, in this situation, the employee will have worked enough of the month to cover applicable salary deductions but just wondering if anybody was aware of any further guidance in a situation such as that. Thanks.

[GBurns]

How can you deduct anything if the salary reduction agreement states $X per pay period (and the number of pay periods is also stated), or $X per month etc.?

Doesn't the SRA also have a stated date for the first deduction ?

The termination date and pay date does not seem to be a regular pay period and the SRA says nothing about pro-rating.

Why even bother making a deduction ?

What happens if you do make the deduction and it causes pay to fall below minimum wage ?

[LRDG]

IRS states that Sec. 125 elections are 1. irrevocable and 2. for a plan year.

SRAs should state the annual election amount, or at least should state that the election is entered into on an annual basis.

If SRA only states a per period amount, it is for illustrative purposes, an illustration of the annual elected amount and it's effect on participants per period net and gross pay and tax savings after Sec. 125 reductions. These are annual elections and SRAs should clearly state that it is, even if the illustration is per pay period.

Sec. 125 contributions have no effect on minimum wage.

You would "want to even make the deduction" because not doing so would violate Sec. 125 regs. with potential for IRS penalties, possibly for the plan year and the entire plan. There may be circumstances where it is impossible to fund the FSA, in which case the fact and circumstances would have to be evaluated regarding how to resolve the problem without violating Sec. 125. There are no IRS guidelines addressing this specific situtation.