Janet LeTourneau

The train is leaving the station, and change is the only cargo. Heading into the new year, I thought I would give you a quick rundown on changes that will be coming down the track so you won’t be left behind.

Over-the-Counter Medicines and Drugs
On Friday, September 3, 2010, the IRS issued its initial guidance with respect to the new rule included in the Affordable Care Act that requires a doctor’s prescription for the reimbursement of over-the-counter (OTC) drugs and medicines from a tax-advantaged health care account. While the guidance offers little in the way of new information, it does confirm the generally accepted interpretation of how the change will be applied.

In summary, the guidance confirms the following: Participants will still be able to use their tax-advantaged health care accounts for purchases of all over-the-counter drugs and medicines—as long as they have a doctor’s prescription.

The rule applies to all tax-advantaged health care accounts, including flexible spending accounts (FSAs), health savings accounts (HSAs), health reimbursement arrangements (HRAs) and Archer medical savings accounts (Archer MSAs). This rule takes effect January 1, 2011 and applies to all purchases on or after January 1, 2011, regardless of plan year.

The only acceptable forms of documentation for reimbursement for over-the-counter drugs and medicines are a receipt indicating the prescription number in addition to the date purchased, purchaser and amount, or if the receipt does not contain the prescription number, the doctor’s prescription must also be included, as regulated by state law.

Insulin, medical devices (crutches, blood sugar monitors, etc.) and items such as bandages, contact lens solution, denture bond, etc., will not require a prescription.

Generally, health care debit cards cannot be used to purchase over-the-counter drugs and medicines. The Special Interest Group for IIAS (International Institute for Advanced Studies) Standards (SIGIS) is working with Treasury to allow the use of a debit card for prescribed OTC drugs and medicines when filled as a prescription at the pharmacy counter. I will keep you posted on that progress.

You may be receiving questions from your employer clients. When communicating the information, it is important to stress that participants can still use their accounts for OTC drugs and medicines and that the rule does not take effect until January 1, 2011. The IRS has posted a helpful FAQ about the OTC rule change on its Affordable Care Act website at www.irs.gov/newsroom/article/0,,id=227308,00.html.

Adoption Assistance Plans
For tax years beginning on or after January 1, 2010, the maximum adoption credit increased from $12,170 to $13,170 per eligible adoption attempt for both “special needs” and “non-special needs” adoptions.

This limit is also used for the adoption tax credit that may be taken on a taxpayer’s income tax return. Also, the adoption credit is now refundable; however, the indexed figure of $13,170 will sunset, reverting to the previous limit of $10,000, on December 31, 2011 for both the adoption assistance plan and the tax credit unless there’s Congressional action.

CHIPRA
The Children’s Health Insurance Program Reauthorization Act (CHIPRA) of 2009 amended the HIPAA special enrollment rights. It allows special enrollment for loss of eligibility to Medicaid or State Children’s Health Insurance Program (SCHIP) or gaining eligibility for state-provided group health plan premium assistance. Requirements for 2011 enrollment include: (1) revisions to HIPAA special enrollment notice (sent on or prior to enrollment), (2) revisions in SPDs or enrollment materials and (3) a review of election change processes. Model forms have been developed by the Department of Health and Human Services and the Department of Labor.

Dependent Care Tax Credit

The current child and dependent care tax credit limits are scheduled to sunset on December 31, 2010. Besides the dependent care FSA that is included in most cafeteria plans, there is a federal child and dependent care tax credit. One of the Bush tax cuts included an increase in the expenses that can be taken into consideration for the tax credit, beginning January 1, 2003. Table 1 shows changes in the amount of employment-related child care expenses that can be taken into account for the child and dependent care tax credit.

Table 1
Child Care Expense Changes
        2002 and        2003-    2011 and
        Earlier    2010    Later
    One Child    $2,400    $3,000    $2,400
    Two or More    $4,800    $6,000    $4,800
    Children

Without Congressional action, the amounts revert back to the pre-2003 levels at the end of this year.
HSA Taxes

Starting January 1, 2011, the penalty tax due on non-qualified distributions from HSAs and Archer MSAs will increase from 10 to 20 percent. If funds from an individual’s HSA or Archer MSA are not used for qualified medical care, the account holder will pay an additional 20 percent tax on the amount, in addition to normal income taxes.

These increased taxes will be assessed on the individual’s 2011 tax return, generally due April 14, 2012.

Tanning Services Excise Tax
A 10 percent excise tax was inaugurated on July 1, 2010. This “sin” tax is imposed on any indoor tanning services and provides income to underwrite a portion of health care reform.

Transit
When the American Recovery and Rein­vest­ment Act (ARRA) became law in 2009, it included a not-very-publicized provision that had the good effect of increasing the maximum monthly pre-tax transit limit from $120 to $230. Unfortunately, the provision and increase also included an expiration date of December 31, 2010. Now with that date drawing near, it looks like Congress may let the provision and increase expire. If they do, the limit will revert back to $120 on January 1, 2011.

W-2 Reporting
Beginning in 2011, the value of all employer-provided health insurance must be disclosed on an employee’s W-2. While  detailed guidance is yet to come, employer-provided health insurance information appears to include the COBRA rate of all health coverage whether fully insured or self-insured, employer contributions to HRAs, employer contributions and cafeteria plan salary reductions to HSAs or employer contributions to MSAs and both non-elective and salary reductions to health FSAs. Dental and vision costs, accident and disability insurance, long term care insurance and after-tax funded hospital indemnity and/or specified disease coverage are not included in this W-2 reporting requirement. It’s important to note that this value is simply to be reported starting next year; it does not affect the employee’s taxable income in any way.

Now is the time to contact your employer clients to make sure they are aware of these changes and how this information will be collected.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

Among the myriad changes included in The Affordable Care Act provisions was a plan design for SIMPLE cafeteria plans. As the name implies, this type of cafeteria plan is supposed to be simple for employers to establish and maintain.

Employers can skip all the applicable nondiscrimination testing requirements associated with today’s cafeteria plans, assuming they meet certain eligibility requirements, pass the SIMPLE plan’s eligibility and participation requirements, and provide a required contribution.

First I’ll discuss what constitutes an eligible employer and then move on to the eligibility, participation and contribution requirements. Then, as we go through some examples, you may see how employers can provide additional non-taxable benefits to their owners and highly compensated employees. This twist may make a SIMPLE plan a snap for some of your employers. Let’s look at the facts.

Eligible Employers
SIMPLE plans are for “small” employers—those with 100 or fewer employees during either of the two preceding years. If an employer has not been in existence for two years, calculations are based on the average number of employees reasonably expected to be employed on business days in the current year.

An employer must count employees under common ownership rules, part-time and seasonal employees, and leased employees.

Eligible employers that grow beyond 100 employees can retain their eligibility to maintain a plan until they employ an average of 200 or more employees on business days during the year. Yet that doesn’t mean they have to abandon their SIMPLE plan in the middle of a plan year—they may complete the current plan year. Then they must go to a regular cafeteria plan—with non-discrimination testing—starting with the subsequent plan year.

Although regulations prohibit a sole proprietor, partner in a partnership, member of an LLC (in most cases), or individuals owning more than 2 percent of an S corporation from participating in a cafeteria plan , they may still sponsor a SIMPLE plan. These “owner/employees” still benefit from the savings on payroll taxes and in some cases, workers’ compensation premiums, plus they may have key or highly compensated employees who can benefit from a SIMPLE plan. Shareholders of regular C corporations may participate in the SIMPLE cafeteria plan.

Eligibility and Participation Rule
All employees with at least 1,000 hours of service for the preceding year must be allowed to participate in a SIMPLE plan, and each eligible employee must have the right to elect any benefit offered under the plan.

Employees who may be omitted from participating in the plan are those under the age of 21, with less than one year of service, covered by a collective bargaining agreement, or working outside of the United States as nonresident aliens.

Required Contributions
Required contributions can be delivered through the plan by one of three methods:
• An amount equal to a uniform percentage of not less than 2 percent of an employee’s compensation for the plan year. This amount is made available to all eligible employees, even if they do not make salary redirections.

Or the lesser of:
• Six percent of employee’s compensation to those making salary redirections to the plan, or
• Twice the amount of an employee’s salary reductions.

Employer contributions must be available to be used for any qualified benefit offered through the plan, but cash need not be offered for these required employer contributions. The employer contributions cannot be made to highly compensated or key employees at a greater rate than to the rank and file employees.

Nondiscrimination Tests
What does all this “buy” the employer? In addition to some serious payroll tax savings, there’s no more complicated and confusing nondiscrimination testing associated with offering a cafeteria plan.

The tests avoided include four for health care flexible spending accounts (FSA) and four for dependent care accounts; plus the cafeteria plan code section carries another three that employers are obliged to complete and pass every plan year. The employer may also have to make adjustments to elections if one or more nondiscrimination test fails.

Two of the tests that are failed more often than any others are the dependent care 55 percent concentration test and the overall 25 percent concentration test that includes all benefits included in the cafeteria plan.

Let’s work through one example to see how the 25 percent concentration test works and how the implementation of a SIMPLE cafeteria plan can benefit owners and highly compensated employees.

In the example below there are two owners and nine other employees. The owners elect $1,500 each, three non-highly compensated (NHC) employees elect $1,500 each, and six NHC employees do not elect any salary reduction to the plan.

This scenario would not pass the 25 percent concentration test ($3,000 divided by $7,500 equals 40 percent of the total benefits going to key employees). In order to pass, the owners would have to reduce their election to $750 each.

By establishing a SIMPLE cafeteria plan, the employer would not have to perform any discrimination tests and the owners could take advantage of substantial employer contributions.

Table 1 illustrates the contribution options this employer may pursue:
1. Provide employer contributions to the SIMPLE plan equal to 2 percent of compensation to all eligible employees.
  a. The owners are given $4,000 to spend on benefits.
  b. All other employees are given $8,100 for benefits.

2. Using the matching method of providing employer contributions equal to 6 percent of compensation to participating employees.
  a. The owners are given $12,000 for benefits.
  b. All participating employees are given $8,100 for benefits.

3. Employer contributions can be provided as a match equal to twice the salary reduction amounts by participating employees, but only to the extent that this is less than the previous matching method.
  a. The owners are given $6,000 for benefits.
  b. All participating employees are given $9,000.

In this example the employer could choose between contributing 2 percent of compensation to a SIMPLE plan for the benefit of all eligible employees or contributing an amount equal to twice the salary reduction amounts to participating employees.

And don’t forget—if participants don’t spend all their money, it can be forfeited back to the employer to offset administrative expenses. By forfeiting unused contributions, the employer’s net costs could be reduced further.

It’s All in the Numbers
For small or family-owned businesses, a SIMPLE cafeteria plan may be just the ticket to maximize benefits to key and highly compensated employees. For larger companies, it may make sense to establish a SIMPLE plan in order to pass all the nondiscrimination tests and preserve non-taxable benefits to their key and highly compensated employees.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

As many as nine million Americans have their identities stolen each year. To help prevent identity theft, the Federal Trade Commission (the FTC or commission) developed regulations requiring financial institutions and creditors to address their risk by scrutinizing everyday credit and debit card transactions.

The commission developed an Identity Theft Red Flags Rule that requires certain entities to develop and implement written identity theft prevention programs. To facilitate this process, the FTC has issued helpful information about who needs to comply and how to develop and manage a program.

Who Is a Financial Institution
or a Creditor?
The rule defines a financial institution as: (1) a state or national bank, (2) a state or federal savings and loan association, (3) a mutual savings bank, (4) a state or federal credit union, or (5) any other entity that directly or indirectly holds a transaction account belonging to a consumer. Transaction accounts are deposits or accounts from which a consumer can make payments or transfers to third parties.

The definition of creditor is broad and includes businesses or organizations that regularly provide goods or services first and allow customers to pay later. Health care providers, utilities, lawyers or accountants may fall into this definition. Finance companies, mortgage brokers and automobile dealers or retailers that offer financing would also be included.

What Does This Have to Do with
Flexible Spending Accounts?
As far as FSAs are concerned, a list of questions and answers issued by the FTC confirms that plan sponsors or plan service providers (PSPs) are generally not considered a financial institution. “…neither offering employees health care flexible spending accounts nor maintaining those accounts for other companies automatically makes a business a creditor under the rule.”

However, offering a debit card to access benefits tips the scale so that the financial institution definition applies, and thus, so does the requirement to comply with the Red Flags Rule. The FTC further states that if an entity provides government benefits or administers flexible spending accounts and gives customers a debit card to access benefits, it would be considered a financial institution.

Bottom Line?
If a PSP supplies debit cards to participants for flexible spending accounts, their business needs to comply with the Identity Theft Red Flags Rule. Also, employers should be verifying that their service providers have a Red Flags Rule program in place.

What Are the Requirements
of the Red Flags Rule?
Financial institutions and creditors must develop, implement and administer an Identity Theft Prevention program. The Red Flags Rule picks up where data security leaves off.

PSPs need to develop a list of situations that are an alert of fraud. For example, a caller who cannot provide his correct date of birth or the name of the company where he works may raise a “red flag” that the customer’s identity has been compromised.

A Red Flags Rule program seeks to prevent identity theft by ensuring that businesses and their employees are on the lookout for the signs that a person is using someone else’s information. They do this by first implementing data security practices that make it harder for anyone to get access to the personal information they use to open or access accounts, and second, by paying attention to the red flags that suggest that fraud may be occurring.

To establish a program, there are four simple steps.
1. Identify relevant patterns, practices and specific forms of activity that are “red flags” signaling possible identity theft and incorporate those red flags into the program.
2. Detect red flags that have been incorporated into the program.
3. Respond appropriately to any red flags that are detected to prevent and mitigate identity theft.
4. Ensure the program is updated periodically to reflect changes in risks from identity theft.

Know someone who needs a written theft prevention program? A 32-page booklet located at www.ftc.gov/bcp/edu/pubs/business/idtheft/bus23.pdf steps through the process of creating and maintaining a valid program. A comprehensive list of questions and answers about the program can be found at www.ftc.gov/bcp/edu/microsites/redflagsrule/faqs.shtm.

Still have questions? Visit www.ftc.gov.redflagsrule or email [email protected].

Ensure that your clients know about the Red Flags Rule and obtain a statement of compliance from their plan service provider. But be aware, although initiated in 2007, the requirement for financial institutions and creditors to institute a program has been delayed a number of times. The latest delay extends enforcement to January 1, 2011. After this date, unless enforcement is again delayed, all financial institutions and creditors must have their programs in place.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

Even though final regulations regarding claim determinations and rights of appeal were issued several years ago by the Department of Labor’s Employee Benefits Security Administration (formerly the Pension and Welfare Benefits Association), I continue to receive questions concerning permissible timing for handling claim determinations by plan administrators and the timing of appeal procedures by claimants.

The claim regulations relate to health claims, including those for medical, dental, vision, prescription drug, and certain employee assistance programs that provide medical benefits, and for disability claims. The primary reason for the regulations is to facilitate and expedite decision-making on medical issues. It is important to note that both health reimbursement arrangements (HRAs) and health flexible spending accounts are considered health plans and, thus, are subject to these regulations.

Typically, administrators of Section 125 flexible spending accounts and health reimbursement arrangements adjudicate and pay “post-service claims” for plan participants. These claims, as well as the others listed below, are specifically covered by these regulations.

Four Categories of Claims
The regulations divide claims into four categories:

1. Urgent Care Claims. A claim for urgent care is one that would substantially impact the life or health of the claimant or would subject the claimant to severe pain that cannot be managed without treatment.
2. Pre-Service Claims. Pre-service claims are those that require pre-certification before services are rendered.
3. Post-Service Claims. Post-service claims are for payment after services have been rendered.
4. Disability Claims payments.

Time Frame for Responding
The regulations set time limits in which the initial claims must receive a response. It’s important to note that these time limits are not safe harbors. All claims described above must be responded to as soon as is reasonably possible, but in no event can the response be later than the time frame described below.

Administrators of post-service claims have up to 30 days in which to respond to any health flexible spending account claims, with a one-time 15-day extension allowed. If the extension is due to insufficient information, the notice of the extension must specifically describe the required information and the claimant has 45 days to provide information.

Claims Determination
The written claim determination can be delivered either electronically or in paper format and must include the following:

• The specific reason for the denial.
• The specific reference to relevant plan provisions.
• A description of, and rationale for, any additional information that would be needed to perfect the claim.
• A description of the plan procedures, time limits and the right to take legal action.

The claimant must be provided with the rules, guidelines, or other protocols relied upon in making the determination or the claimant must be advised that such information is available free of charge. If the denial is based on merit, medical necessity, or the experimental nature of the treatment, the denial must explain the scientific or clinical basis for the denial, or state that such information is available at no charge.

Time Frame for Appeal of Denied Claims
Previous regulations allowed a claimant 60 days in which to file an appeal. But final regulations allow claimants 180 days in which to file an appeal. Post-service claims administrators then have 60 days in which to respond to the appeal.

Remember, this appeal time frame is not based on the underlying plan’s period of coverage. If a claim is denied on the last day of the plan year or even the last day of the run-out period, participants still have a full 180 days in which to file an appeal or perfect their claim and resubmit.

Full and Fair Review
According to the regulations, claimants must receive a full and fair review. This simply means that the review cannot be made by the same person who made the initial determination­—nor any of his subordinates.

On appeal, claimants can submit additional documentation supporting their position. They must have access to all relevant documents relied upon in the review. The review must take into account all newly submitted information and cannot be based solely on information relied upon in the initial determination.

If the appeal is based on medical necessity or the experimental nature of a treatment, the person reviewing the appeal must consult with a medical professional who has the appropriate expertise and training.

Review Current Documents and Processes
When reviewing a claim and making a claim determination, it’s a good idea for plan administrators to review the applicable plan documents, including third party administration agreements, insurance contracts and all other related documents. These documents must uphold the claim and appeal procedures outlined by the Department of Labor to ensure compliance with these regulations.

The cafeteria plan document and summary plan description needs to contain an accurate description of the claims denial and appeal processes, and the plan sponsor must ensure that this information is communicated to plan participants and their beneficiaries.

The plan sponsor is responsible for inquiring into the procedures used by any third party administrators relied upon. In most cases, it is the employer’s ultimate responsibility to make certain that the plan adheres to prevailing guidelines.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

Long ago, it seems, IRS Notice 2002-24 suspended the filing requirement imposed on cafeteria and fringe benefit plans. However, the filing requirement for welfare plans remains unchanged. That’s where the doubts start to creep into the minds of plan sponsors and plan service providers (PSPs) who assist in the administration of benefit plans.

So many questions to answer—including: “Who needs to file Form 5500?” “What is a welfare benefit plan?” “When is a welfare benefit plan required to file?” and “How many Form 5500s do employers need to file?”

Short Cut for Cafeteria Plans
 • A premium Only Plan (POP) does not have to file a Form 5500.
 • A Cafeteria Plan containing a health flexible spending account (FSA) or a Health Reimbursement Arrangement (HRA) does not have to file a Form 5500 if:
  There are fewer than 100 participants in the health FSA or HRA as of the beginning of the plan year, and
  The benefits are paid from the general assets of the employer.

An employer that sponsors welfare benefit plans covered by Title I of ERISA is required to file a Form 5500 for those plans. However, there are a couple of exceptions that apply, depending on the type of employer sponsoring the plan. A general exception applies to:
 • A governmental plan; or
 • A church plan under ERISA section 3(33).

Generally, a Form 5500 will be required if: (1) The plan is deemed to have plan assets; (2) The plan funds are separated from the employer’s general assets; (3) The plan funds are held in trust; or (4) The plan funds are forwarded to a third party administrator.

Most employer plans requiring a 5500 will complete all questions on Form 5500, including 5, 6a through 6d, 8b and 9a and 9b. Depending on the funding arrangement or payments from the plan, attaching Schedules may be applicable.

The 2009 “Instructions for Form 5500” have been modified to make it clear that plans that are paid from the general assets of the employer need not file Schedule C.

What Is a Welfare Benefit Plan?
Welfare benefit plans provide benefits such as medical, dental, life insurance, apprenticeship and training, scholarship funds, severance pay and disability. The health FSA contained inside of a cafeteria plan and an HRA both qualify as welfare benefit plans.

When does a welfare benefit need to file a Form 5500? Forms must be filed by the last day of the seventh calendar month after the end of the plan year. A plan may obtain a one-time extension of time to file. Form 5558 must be sent by the original due date in order to gain a 21/2 month extension of time in which to complete and file the Form 5500.

How Many Form 5500s?
If an employer sponsors several welfare benefit plans and a cafeteria plan, how many Form 5500s would the employer have to file? This is a very common question and confuses even the best benefit consultants. Let’s look at one example that will clarify the answer.

An employer offers a health FSA and dependent care benefit through a cafeteria plan and allows employees to pay their health insurance and employer-sponsored group term life insurance premiums through the cafeteria plan with pre-tax dollars. How many Form 5500s must this employer file?

First, let’s count the number of welfare benefits. The health FSA inside of a cafeteria plan would be one, plus the health insurance plan and group term life insurance offerings would count as plans two and three.

Second, is there an exemption for filing a Form 5500 for any of the welfare benefit plans? The health FSA has 85 participants with the benefits paid from the general assets of the employer. The health insurance plan has 125 participants and the group term life plan has 48. Both the health insurance plan and the group term life products are fully insured.

The health FSA and the group term life plans fall under an exemption rule. Neither has more than 100 participants. The group term life plan is “fully insured” because the benefits are paid through an insurance contract, and the health FSA is “unfunded” because the benefits are paid from the general assets of the employer.

That leaves the health insurance plan, which requires a filing because there are more than 100 participants at the beginning of the plan year. If the employer’s health FSA and group term life plan included more than 100 participants, the employer would have to file three separate Form 5500s—one for each plan.

It should be noted that employers can maintain what is called a “wrap” document. This all-encompassing document references all of the employer’s plans that are on the same plan year. One Form 5500 may be filed for the “wrap” plan that includes information for all the component plans.

Delinquent Filer Voluntary Compliance Program
Okay, so an employer should have filed a Form 5500 for its welfare benefit plan, but may not have realized that having more than 100 participants put the plan into a “must file” status. The Department of Labor (DOL) provides a way to help employers get back into compliance through the Delinquent Filer Voluntary Compliance (DFVC) program.

The DFVC program is available to plan sponsors who have failed to file required Form 5500s in a timely manner. If a filing is brought current prior to an audit by the DOL, significantly reduced penalties are imposed.

Amount of Penalties
 •  Per Day Penalty. The basic penalty under the program is $10 per day.
 • Per Filing Cap. The maximum penalty for a single late annual return has been reduced: From $2,000 to $750 for a small plan (one that covers fewer than 100 participants at the beginning of the plan year). From $5,000 to $2,000 for a large plan (one that covers 100 or more participants at the beginning of the plan year).
 •  Per Plan Cap. For plan administrators who have failed to file an annual return for multiple years, the per plan cap limits the penalty to $1,500 for a small plan and $4,000 for a large plan, regardless of the number of late annual returns filed for the plan at the same time.
 •  Small Plans sponsored by tax-exempt organizations. For a small plan sponsored by a 501(c)(3) organization, a special per plan cap of $750 applies, regardless of the number of late annual returns filed for the plan at the same time.

Don’t Wait to Take Advantage of a DFVC Program
The DOL and IRS have indicated the initiation of a joint project to step up efforts in identifying and auditing plans that are delinquent on their reporting requirements. Because penalties assessed on filings brought current under the DFVC program are significantly lower than penalties that could be assessed if the DOL audits the plan, plan sponsors that have delinquent filings should strongly consider bringing those filings current as soon as possible.

New for 2010
Starting January 1, 2010, Form 5500 filing became totally electronic. This electronic filing requirement is called EFAST2 and requires the employer to register for credentials. The employer plan sponsors and administrators that sign the Form 5500 must register at the Department of Labor website. They will receive IDs and PIN codes to enable them to electronically sign and submit their forms.

If your clients have questions about this new obligation, send them to the DOL website at: www.efast.dol.gov/welcome.html for additional information involving electronic filing of their Form 5500. Ë›

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

The Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act (Health Care Reform Act) extends certain rights and tax exclusions for expenses paid by taxpayers for their adult children. Group health plans and health insurance issuers must offer dependent coverage for an adult child up to age 26. The Health Care Reform Act also provides favorable tax treatment for employer-provided health care coverage or medical expense reimbursements for employees’ adult children. Unfortunately, the definition of an adult child differs from one section to another.

Internal Revenue Service (IRS) Notice 2010-38 refines and amplifies the language of the Health Care Reform Act and answers a multitude of questions pertaining to effective dates, IRS Code changes, plans affected and plan amendments.

The notice contains welcome details for sponsors of cafeteria plans, flexible spending accounts (FSAs), health reimbursement arrangements (HRAs), voluntary employees’ beneficiary associations (VEBAs), certain retiree health accounts in pension plans and deductions by self-employed individuals for medical care insurance.

What Is the Definition of an Adult Child?
The definition is quite simple:
 • An “adult child” is an employee’s child (as defined in IRC Section 152(f)(1)) who has not attained age 27 by the end of the employee’s taxable year (generally January 1 through December 31).
 • IRC Section 152(f)(1) is literally the definition of a child. It means an individual who is a son, daughter, stepson or stepdaughter of the taxpayer, or an eligible foster child. It also includes an adopted child (a legally adopted individual or an individual who is lawfully placed with the taxpayer for legal adoption). An eligible foster child would be considered a taxpayer’s child if placed with the taxpayer by an authorized placement agency or by judgment, decree or other order of any court of competent jurisdiction.
 • The IRS definition of a qualifying child which includes a different age limit, residency and support requirements does not apply to this definition of an adult child.
 The IRS Code Section 152 definition of a dependent has not been amended or changed, rather the definition of an adult child has been, or will be, inserted into different sections of the IRS Code.

What Is the Effective Date of Coverage for an Adult Child?
The definition takes effect retroactively to March 30, 2010. Any amendments to the IRS Code that have not been published will be retroactive to March 30, 2010. The Health Care Reform Act requires plans that cover dependent children to provide for coverage of children until age 26 beginning with the plan year starting on or after September 23, 2010.

There is no requirement to cover children of covered dependent children, and the requirement is applicable even if the child is married or is not a tax dependent. Until January 1, 2014, grandfathered plans do not have to extend coverage if the child is eligible for other employer coverage. While extending this coverage is required beginning with the plan year starting on or after September 23, 2010, the Department of Health and Human Services (HHS) is encouraging that coverage be extended as soon as possible.

Cafeteria Plans, FSAs and HRAs
The exclusion from gross income for expenses paid for health insurance coverage and reimbursements of medical expenses under IRS Code Section 106 and 105(b) for an employee’s adult child carries forward automatically to the definition of qualified benefits for cafeteria plans, including health FSAs.

IRS Regulation 1.125-4, which stipulates permitted election changes for a cafeteria plan, will be retroactively amended to include change in status events affecting nondependent children under age 27, including becoming newly eligible for coverage or eligible for coverage beyond the date on which the child otherwise would have lost coverage.

The same rules apply for health reimbursement arrangements.

Transition Rule for Cafeteria Plan Amendments
Although amendments to cafeteria plans may only be effective prospectively, in this case, employers may permit employees to immediately make pre-tax salary reduction contributions for accident or health benefits under a cafeteria plan (including a health FSA) for children under age 27— even if the cafeteria plan has not been amended to cover these individuals. However, a retroactive amendment for this purpose must be made no later than December 31, 2010, and must be effective retroactively for any date on or after March 30, 2010.

FICA, FUTA, RRTA and Income Tax Withholdings
Coverage and reimbursements paid by the taxpayer for their adult children are excluded from wages for the Federal Insurance Contribution Act (FICA), Federal Unemployment Tax Act (FUTA) and for the Railroad Retirement Tax Act (RRTA) tax purposes.

Take steps now to inform and educate employers and encourage them to offer employees these new tax savings opportunities.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

Health care reform has come to us in bits and pieces. The Senate passed their version on December 28, 2009. The House was working on their version at the same time. However, because of a shift in the Senate majority, the consensus from the House was to create a “reconciliation” bill in order to make changes to the bill approved by the Senate. They would, in turn, pass the Senate bill and the reconciliation bill to make it a complete package.

President Barack Obama signed into law the “Patient Protection and Affordable Care Act” (Health Care Act) on March 23, 2010, followed by the signing of the “Health Care and Education Reconciliation Act of 2010” on March 30.

These massive health care acts will certainly change the health care industry as we know it, with transformations phased in over several years. But, instead of detailing every change, for the purpose of this article, I’ll focus on flexible spending account (FSA) changes that will impact employers and their employees in the near future.

The Good
Definition of a Qualified Child. The Health Care Act changed the definition of a qualifying child to include any child of the taxpayer who has not reached the age of 27 as of the end of the tax year. However, keep in mind that the child will have to meet the other requirements as outlined under IRC Section 152(f)(1). The effective date of this change was March 20, 2010, with an exception for some grandfathered plans.

Simple Cafeteria Plans. The basics are simple, hence the name. Employers may skip all the applicable non-discrimination requirements for cafeteria plans under IRC Section 125 during the plan year if they adhere to three simple rules:
 1. The employer is an “eligible” employer.
 2. An eligible employer provides a required contribution.
 3. The plan passes the eligibility and participation requirements.
 In fact, an eligible employer who follows all the rules can skip the non-discrimination requirements under IRC Section 79(d) for group term life insurance, Section 105(h) pertaining to health FSAs, plus Section 129 for dependent care plans.

An eligible employer is one who employed 100 or fewer employees on business days during either of the two preceding years. If the employer has not been in existence for two years, their figures can be based on the average number of employees reasonably expected to be employed on business days in the current year.

Even if employers grow and have more than 100 employees, they can retain their eligibility to maintain a simple cafeteria plan. Employers will lose eligibility to offer the simple plan for a subsequent year if an average of 200 or more individuals are employed on business days during any preceding year.

Of course, if the employer outgrows a simple cafeteria plan, a traditional plan can be started, subject to the non-discrimination requirements.

The contribution rule states that eligible employers are required to make contributions for qualified benefits on behalf of each qualified employee, without regard to whether a qualified employee makes any salary reduction.

The contributions to each qualified employee must be:
 • An amount equal to a uniform percentage (not less than 2 percent) of compensation for the plan year or
 • An amount which is not less than 6 percent of the employee’s compensation for the plan year or twice the amount of the salary reduction contributions of each qualified employee.

For example, if an employee redirects $1,200 for the plan year and makes $50,000 in compensation that year, the contribution would need to be at least $1,000 (2 percent of compensation) or the lesser of $3,000 (6 percent of compensation) or $2,400 (twice the amount of salary reduction).

Matching contributions on behalf of highly compensated or key employees cannot be at a greater rate than for those who are not highly compensated or a key employee. However, an eligible employer may make additional contributions above the minimum requirements as long as they are not provided at a greater rate to highly compensated or key employees.

Minimum eligibility and participation requirements are:
 • All employees who had at least 1,000 hours of service for the preceding plan year are eligible.
 • Each employee eligible to participate in the plan may, subject to the terms and conditions applicable to all participants, elect any benefit available under the plan.

A qualified employee is anyone who is eligible to participate in the plan. However, certain employees may be excluded from participating in the plan if they:
 • Have not attained age 21 before the close of a plan year.
 • Have less than one year of service with the employer as of any day during the plan year.
 • Are covered under a collective bargaining agreement.
 • Are non-resident aliens working outside the United States.

A plan may provide for a shorter period of service or younger age for these exclusions, as determined by the employer.

Eligible employers may begin setting up simple cafeteria plans starting January 1, 2011.

Adoption Assistance Plans. For tax years beginning after December 31, 2009, the adoption tax credit is increased by $1,000 and is refundable on the employee’s tax return. The increased amount is available through 2011.

The Bad
Health Savings Account (HSA) and Archer Medical Savings Account (Archer MSA). For account holders of an HSA or Archer MSA, non-qualified distributions before the account holder reaches age 65 or is disabled will see an increase in the additional tax due. Starting in 2011, the additional tax will be 20 percent of the non-qualified distribution.

W-2. Beginning with the 2011 tax year, employers will be required to report the value of any employer-sponsored health care coverage on an employee’s W-2.

The Ugly
Over-The-Counter (OTC) Medications. Starting on January 1, 2011, OTC medications cannot be reimbursed from an FSA, HSA or a health reimbursement arrangement (HRA) unless they are accompanied by a doctor’s prescription.

However, all is not lost. This new ruling does not exclude all OTC expenses. Items like aspirin and cough syrup would be out, unless a doctor’s prescription is obtained for their use. Items like adult diapers, blood glucose monitors and diabetic test strips can still be purchased on a pre-tax basis without a doctor’s prescription.

Participants that utilize a health care debit card will no longer be able to use their card at the drug store or pharmacy for OTC drugs and medications. They may obtain a prescription for these items from their doctor and turn in a paper claim to their administrator along with the doctor’s prescription.

Enrollments are taking place now. Employers and their employees must be made aware of the OTC changes in order for participants to accurately determine their annual election to the FSA. For HRAs, the employer sets the limit, and HRAs roll from one year to another. Although neither the HRA nor the HSA may reimburse OTC drugs and medications once 2011 begins, there is no risk of loss to participant salary redirections from these types of plans.

Health FSA Contribution Limit. A contribution  limit will apply to health FSAs starting January 1, 2013. Previously, there were no Internal Revenue Service limits placed on individuals or cafeteria plans and the employer set the limit for their cafeteria plan.

Under the health care reform act, health FSAs are limited to $2,500 per year. This dollar amount will be indexed for inflation starting after 2013.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

You complete me. I know, it’s a sappy line from a movie; but I feel this way about flexible spending accounts (FSAs). No employer’s benefits package is complete without one. Giving employees choices is one way to make them feel more in control of their benefit dollars. By offering FSAs an employer is presenting real choice for their employees.

Include Flexible Spending Accounts
Although employers may think that FSAs are trite or old-fashioned, they are still a very strong employee benefit that will save employees and employers a significant amount of tax dollars. FSAs are true cafeteria plans in which participants choose among a “buffet” of benefits. Participants choose the level of coverage and the benefits to fit their family demographics.

FSAs are like a comfortable pair of jeans—they go with everything. Including FSAs with health savings accounts (HSAs) or health reimbursement arrangements (HRAs) completes and complements the rest of the benefit package, while providing a diverse work force with genuine options that fit each individual’s requirements.

FSAs with HSAs
Moving to a high-deductible health plan (HDHP) does not necessarily mean establishing an HSA. Some participants do not want the responsibility of reimbursing themselves from an HSA. Others realize, sometimes too late, that their annual election amount is not available on the first day of the plan year. Still others realize the advantage of having an HSA and participating in an FSA.

Participants may contribute to both an HSA and a limited FSA. A limited FSA can reimburse participants for vision, dental, preventive care and post-deductible health care expenses.

With IRS-regulated limits on the amount of money that may be contributed for the year, some participants may require more  coverage than can be provided with an HSA. Maximum HSA contributions for 2010 are $6,150 for family and $3,050 for single coverage. That doesn’t go very far when paying for braces or LASIK surgery. A limited FSA gives the participant a way to enjoy tax savings for expenses that exceed the HSA maximum contribution amounts.

Some employees, when given an option, may not enroll in an HDHP. FSAs are a great way for them to save on expenses not covered by their health insurance plan.

Also keep in mind that FSAs aren’t just for health care expenses. They may include options for day care and adoption expenses, individually-owned and employer-sponsored health insurance premiums, and certain other voluntary products the employer might offer.

FSAs with HRAs
HRAs provided by an employer can be available just for employees who choose the HDHP or to all employees. They may reimburse all health care expenses or just those items like a limited FSA.

With an HRA, the employer limits the amount of dollars available for medical expenses. As with the HSA limitations, some participants may require more coverage than can be provided through the HRA. An FSA boosts the participant’s tax savings for expenses that exceed the HRA maximum reimbursement amounts.

FSAs are a win/win for employers and their employees. While employees save 25 to 40 percent on qualified expenses, employers do not pay the matching FICA taxes on employee contributions to the plan.

Questions from Employers
 1. If an employee selects coverage under an HSA-eligible HDHP, does he have to set up an HSA? No, a participant may take part in an employer’s general health FSA or HRA, or a combination of both. An employee may also contribute to an HSA and participate in a limited health FSA or HRA.
 2. What happens if an employee has a lot of medical expenses early in the plan year? Recent clarification issued from the IRS would allow an employer to fund the HSA to a greater extent for a participant that incurs a large expense. With a health FSA, the annual election amount is available to the participant at any time, and the HRA document can be written to allow access to the funds at the beginning of the plan year or periodically throughout the year.
 3. Does an employer have to put the HRA money into a bank account? No, funds must be available to pay eligible claims as they are submitted. HRA claims are paid from the general assets of an employer and not retained in a separate bank account.
 4. Are HRA funds available as cash to participants? No, the HRA account funds allocated to an employee may never be available in cash to a participant, spouse or dependents. HRAs can only pay for eligible medical expenses.
 5. Can HRAs pay the medical expenses for terminated and/or retired employees? Yes, the HRA can continue to pay the medical expenses for employees who have terminated employment or retired. The plan document must specify these terms and explain how account balances are calculated. For instance, an individual’s account at retirement may be capped at the current balance with no more employer credits being added to the balance.

Spenders, Savers and Investors
However, HDHP participants come in all shapes and sizes. Their financial needs and philosophies differ, too. They can be loosely categorized into three distinct groups—spenders, savers and investors. So how do these different groups react to HDHPs?

Spenders are participants who require a high level of coverage for medical ex­penses and cannot financially afford to pay those expenses out of pocket. Budgeting is important to spenders and they may be more comfortable with an FSA that pays expenses as they are incurred.

HSAs aren’t for everyone. If cash is tight and an employee needs money to pay expenses before the insurance kicks in, then an FSA can be their best choice. And there are no extra IRS forms to file when participating in a FSA.

Savers include those participants electing the HSA option. They think of their HSA as a “medical IRA.” They save for future medical expenses, but may dip into the account for medical emergencies.

These employees should choose an HSA and invest for the future if they can afford to pay medical expenses without regularly dipping into the HSA. Some employees can save even more by participating in an HSA and a limited FSA.

Investors of the world would prefer an HSA that is left to grow for future health care expenses. They would also participate in a limited health FSA or HRA to leverage their tax savings and the growth potential of their HSA.

HSAs are a great way to save on taxes and sock money away for retirement. If their 401(k) or IRA is “maxed out,” or even if it is not, they can drop about $6,000 every year into a health savings account.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

The Health Insurance Portability and Accountability Act (HIPAA) of 1996 has added new requirements for employers, plan service providers (PSPs) and anyone who touches protected health information (PHI). Called the Health Information Technology for Economic and Clinical Health (HITECH) Act, it outlines new notification rules for anyone in contact with PHI. It arrived in the American Recov­ery and Reinvestment Act of 2009 (ARRA) package issued February, 2009, and was effective September 23, 2009.

So what is HITECH all about? First, you’ll need some definitions:
 • Breach: Unauthorized access, use or disclosure of PHI.
 • Unsecured PHI: PHI that is not secured by encryption or destruction and could be interpreted by unauthorized individuals.
 • Disclosure log: A log of legal disclosures that did not require an employee notice. Employees may request to see their personal disclosure log.

The HITECH Act requires covered entities and business associates to provide notification if a breach involves unsecured PHI. Unsecured PHI has not been rendered unusable, unreadable or indecipherable to unauthorized individuals through the use of a technology or methodology specified by the Secretary in guidance. Electronic PHI must be encrypted to be considered secure while in motion (emails), in use, at rest (residing on a data server) or it must be destroyed.

Merely password protecting PHI is not enough. The guidance specifying the technologies and methodologies for rendering PHI “secured” is exhaustive. Again, PHI must be encrypted or destroyed to be considered “secure.”

To qualify as a breach that requires notification, there must be significant risk of harm to the individual. Facts and circumstances of the breach will determine the risk. Were immediate steps taken to obtain a guarantee that the information would not be used or disclosed in violation of HIPAA privacy laws? Was the PHI returned prior to being accessed, such as an unopened explanation of benefit statement returned to the health care provider? If it is determined that significant harm will occur, the individual(s) must be notified.

Following a breach of unsecured PHI, covered entities must provide notification of the breach to affected individuals, the Secretary, and, in certain circumstances, to the media. In addition, business associates must notify covered entities that a breach has occurred.

The notification of breach must include:
 1. A brief description of what happened, and the date of the discovery of the breach, if known.
 2. A description of the types of unsecured PHI that were involved in the breach (such as full name and disability code).
 3. The steps individuals should take to protect themselves from potential harm resulting from the breach.
 4. A brief description of what the covered entity involved is doing to investigate the breach, to mitigate losses and to protect against any further breaches.
 5. Contact procedures for individuals to ask questions or learn additional information.

Covered entities and business associates must have in place written policies and procedures regarding breach notification, must train employees on these policies and procedures, and must develop and apply appropriate sanctions against workforce members who do not comply with these policies and procedures.

For more information straight from the Department of Labor (DOL) go to: http://www.hhs.gov/ocr/privacy/hipaa/­administrative/breachnotificationrule/. The Department of Health and Human Services has the whole scoop on breach notification.

Need to review the basics of HIPAA? Check out the MHM Resource website at: https://www.mhmresources.com and click on “Employer Solutions” to view the dropdown menu.

Encourage your employer clients to consult with their legal counsel to determine their HIPAA processes and procedures and to update their business associate agreement to conform to these latest HIPAA requirements.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.

Although an election to a cafeteria plan is generally irrevocable, there are times when a participant may change his election. There are the change in status rules (see my article from last month) and there is Internal Revenue Service (IRS) Regulation 1.125-3. This regulation summarizes the effect of the Family and Medical Leave Act (FMLA) on the operation of a cafeteria plan.

The leading principle outlined mandates that employers offer coverage under the same conditions as would have been provided if the employee were continually working during the entire leave period. This article examines the IRS Regulation 1.125-3 rules for participants going on an unpaid FMLA leave. It summarizes an employee’s right to continue or revoke coverage and cease payment for health flexible spending accounts (FSAs) when taking an unpaid FMLA leave and specifications for participants returning from leave.

Coverage Continuation
Employers may require an employee who chooses to continue coverage while on FMLA leave to be responsible for the share of premiums that would be allocable to the employee if the employee were working. FMLA requires the employer to continue to contribute their share of the cost of the employee’s coverage.

Cafeteria plans may offer one or more payment options to employees who continue coverage while on unpaid FMLA. These options are pre-pay, pay-as-you-go and catch-up.

• Pre-pay is paying for coverage in advance of the FMLA leave. This may be a difficult method of continuing coverage for a couple of reasons. The first consideration is if participants cannot afford to have extra funds taken from their paycheck and the second consideration is a timing issue. Most leaves involve an incident or circumstance that is not planned, making the pre-pay option impossible from the participant’s paycheck. However, if planning in advance is feasible, the coverage can be paid on a pre-tax basis through the cafeteria plan.

• The pay-as-you-go option means that participants pay their share of coverage payments on a schedule as if they were not on leave. This method would require the participant to write a check to the employer each month or pay period in order to continue coverage. Since no payroll is taking place, this payment is with after-tax dollars.

• Catch-up contributions allow employees to continue coverage but suspend coverage payments during their leave. Contributions are made up upon their return. The advantage is that contributions can be taken out on a pre-tax basis through a cafeteria plan. The downside for the employer is if the participant does not return from the leave and the employer may have reimbursed expenses in anticipation of the participant making up the coverage payments.

Whatever payment options are offered to employees on a non-FMLA leave must be offered to employees on an FMLA leave. The cafeteria plan may offer one or more of the payment options and may include the pre-pay option for employees on an FMLA leave even if this option is not offered to employees on a non-FMLA leave. However, the pre-pay option may not be the only option offered.

As long as the employee continues health FSA coverage or the employer continues it on their behalf, the full amount of the election for the health FSA, less any prior reimbursements, must be available to the participant at all times, including the FMLA leave period.

Coverage Revocation
Prior to taking an unpaid leave, participants may revoke existing health FSA coverage. Failure to make required payments during an FMLA leave may also result in lost coverage. Regardless of the reason for the loss of coverage, under the FMLA the plan must permit employees to be reinstated in the health FSA upon their return.

Depending on the plan document language, returning employees may decide not to elect coverage into the health FSA; or the plan may require returning employees to be reinstated in health coverage. If an employer requires reinstatement into the plan, employees returning from an unpaid leave not covered by the FMLA must also be required to resume participation upon return from leave.

The employer has the right to recover payments made on the participant’s behalf during the participant’s unpaid leave. The employer may take payroll deductions with the participant’s permission or may request payment from a participant that does not return to work.

If coverage under the health FSA terminates while the employee is on FMLA leave, the employee is not entitled to receive reimbursement for claims incurred during the leave. Even if the employee wishes to be reinstated upon return for the remainder of the plan year, the employee may not retroactively elect health FSA coverage for claims incurred during the leave when coverage was terminated.

Employees have the right to reinstate coverage at the level before their FMLA leave and make up the unpaid coverage payments; or they may resume coverage on a pro-rated basis at a level that is reduced for the period during the FMLA leave. This pro-rated level of coverage is further reduced by prior reimbursements and future coverage payments are due in the same monthly amounts payable before the leave.

Below are examples that clarify both a reinstated and a prorated coverage election that participants may make upon their return to work from an unpaid leave.

Facts
                       Contributed Prior to         Disbursed      FMLA from              Number of Pay
Annual         FMLA. Employee Paid         Prior to          May 1st to              Periods for the
Election           Twice Per Month               FMLA             July 31st           Remaining Plan Year

$1,200         $400 (8 Pay Periods)            $600          6 Pay Periods          10 Pay Periods

• Reinstate Coverage. Using the above facts, upon the participant’s return their annual election will remain at $1,200. Their coverage amount for the remainder of the year is as follows: original annual election minus reimbursed to date ($1,200 minus $600) equals $600. The new per pay period contribution will increase to $80 per pay period. Remember, they are making up contributions from the three-month leave.

For the entire plan year the employee will contribute $1,200 ($400 contributed prior to the leave plus $800 ($80 times 10)). The employer exposure is $1,200 ($600 disbursed prior to the leave plus $600 available upon their return). Now let’s see what happens if the employee chooses to prorate coverage.

• Prorate Coverage. The calculation is different in this instance. A new annual election is determined. This is done by prorating the original annual election for the months the participant was absent. Using the same facts as above, the annual election amount minus six pay periods that were missed ($1,200 minus $300) equals $900. The new, prorated annual election, reduced by prior reimbursements ($900 minus $600) equals $300. The per pay period contribution remains the same as before at $50 per pay period.

In this instance the employee will contribute $900 ($400 plus $500) with an employer exposure of $900 ($600 plus $300).

In either scenario, the employee is not covered for the time he is on the unpaid FMLA leave. He may not turn in claims that were incurred during leave, whether he chooses reinstatement or prorated coverage upon his return.

Certain restrictions apply when an employee’s FMLA leave spans two cafeteria plan years. A cafeteria plan may not operate in a manner that enables employees on FMLA leave to defer compensation from one plan year to a subsequent plan year. In other words, the employee may not pre-pay for coverage in one plan year that pays for coverage in the subsequent plan year.

And finally, employees on an FMLA leave have all the rights to change their elections according to the change in status rules under IRS Regulation 1.125-3 (see my article from last month). They may also enroll in benefits for a new plan year or any benefits that may be added by the employer during the year while they are on leave.

The information contained in this article is not intended to be legal, accounting, or other professional advice. We assume no liability whatsoever in connection with its use, nor are these comments directed to specific situations.