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.
