LCW Partner Heather DeBlanc and Associate Stephanie Lowe penned “What Benefits Administrators Should Know … Temporary Flexibilities for Health FSAs and DCAPs” for the July 2021 issue of HR News. The piece details some of the flexibilities in health FSAs and DCAPs created by the IRS in response to the COVID-19 pandemic. According to the authors, those flexibilities are intended to provide employees with more opportunities to utilize these accounts to pay out-of-pocket medical and dependent care costs on a tax-free basis. Please read the article below.
In response to the COVID-19 pandemic, the IRS, Congress, the Department of Labor and the Department of the Treasury extended and created a number of flexibilities for health flexible spending accounts (FSAs) and dependent care assistance programs (DCAPs). In particular, the IRS determined that due to unanticipated changes in the availability of medical and dependent care, employees were more likely to have unused health FSA and DCAP funds for plan years ending in 2020 and 2021.
The flexibilities described in this article are intended to provide employees with additional opportunities to use their health FSA and DCAP accounts to pay out-of-pocket medical and dependent care costs on a tax-free basis. Before delving into the details, we must stress that employer action is required to allow employees to take advantage of any of the flexible options.
The changes to FSA and DCAP are discretionary; they are neither automatic nor required. What this means in practice is that employers that are interested in making the flexibilities available to their employees must affirmatively amend Section 125 cafeteria plan documents to enact the changes. Additionally, employers are allowed to select which changes they want to make to the FSAs and DCAPs employees may select.
Employers that want to offer and apply flexibilities for 2020 must adopt plan amendments by Dec. 31, 2021. Employers have until Dec. 31, 2022, to offer and apply flexibilities for plans ending in 2021.
Mid-Year Election Changes
Health FSAs and DCAPs are typically subject to the rule of irrevocability, which prohibits employees from making changes after the first day of a plan year. For plan years ending in 2020 or 2021, however, the IRS created an exception to the rule of irrevocability by allowing employees to make mid-year election changes. Permissible changes include revoking elections, increasing or decreasing salary reduction contributions, and making new elections.
Guidance and Explainers
For more information regarding health FSA and DCAP flexible changes, please see
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- IRS Notice 2020-29, COVID-19 Guidance Under § 125 Cafeteria Plans and Related to High Deductible Health Plans;
- IRS Notice 2021-15, Additional Relief for Coronavirus Disease (COVID-19) Under § 125 Cafeteria Plans;
- R. 1319, the American Rescue Plan Act of 2021; and
- Employee Benefits Security Administration Disaster Relief Notice 2021-01.
Any change to an employee’s salary reduction contribution will only apply prospectively. However, a plan amendment may allow employees to use amounts contributed after the mid-year election for eligible expenses incurred from the beginning of the plan year.
Increased Carryovers
Employers may allow employees who have unused health FSA or DCAP contributions at the end of a 2020 or 2021 plan year to carry over unused amounts to a subsequent plan year instead of losing or wasting them. Section 214 of the Taxpayer Certainty and Disaster Tax Relief Act of 2020 (TCDTRA) permits this carryover from 2020 to 2021 (and from 2021 to 2022), marking a big departure from standard DCAP requirements, which generally do not allow any carryovers.
This change also allows for carryovers beyond the maximum amounts previously allowed. Typically, an employee can only carry over 20 percent of the annual maximum contribution if the FSA permits carryover. For the 2020 plan year the maximum carryover would be $550 (i.e., 20 percent of the maximum contribution of $2,750). When an employer adopts carryover flexibilities, however, employees can carry over all or any part of their unused FSA or DCAP funds, even if the amounts exceed $550.
Extended Grace Periods
Grace periods for FSAs and DCAPs are the amount of time employees have to apply unused contributions to pay for or reimburse eligible expenses after the end of a plan year. Under nonpandemic circumstances, a grace period can be no longer than two months and 15 days following the end of the plan year.
Now, employers can adopt extended grace periods of up to 12 months for plan years ending in 2020 or 2021. So, if an employer sponsors a health FSA that has a calendar plan year and a regular grace period that ends on March 15, that employer can adopt an extended grace period to permit employees to use their unused
health FSA contributions remaining on March 15, 2020, to pay for eligible medical expenses incurred through Dec. 31, 2020.
Please note that an employer may not amend its plans to adopt both increased carryovers and extended grace periods for given FSA or DCAP plan years. Amended plan documents must specify which option is adopted for the applicable plan year.
Extended Spenddown of Health FSA Funds
Section 214(c)(2) of the TCDTRA allows employees who stop participating in a health FSA during 2020 or 2021 to continue receiving reimbursements from unused contributions through the end of the relevant plan year and any extended grace period. This flexibility can be made available to an employee who ceases to be a plan participant as the result of the termination of their employment, a change in their employment status, or a new election during 2020 or 2021.
Increase of Dependent’s Maximum Age
The TCDTRA also increases the maximum age of dependents from 13 years old to 14 years old, which provides an extra year of DCAP fund coverage for children who otherwise aged out during the pandemic. Further, participants may use DCAP balances remaining at the end of the 2020 plan year for a dependent’s care expenses in 2021 until the dependent reaches the age of 14.
Increase of Maximum DCAP Contribution
On March 11, 2021, President Joe Biden signed the American Rescue Plan Act of 2021 (ARPA) into law. One big advantage of the ARPA for employees is a temporary increase in the maximum amount of DCAP benefits from $5,000 to $10,500 (and from $2,500 to $5,250 for married individuals who file taxes separately). If an employer amends its DCAP plan document to allow this increase, its employees will have the option of making tax-exempt salary reduction contributions of up to $10,500 during 2021.
Heather DeBlanc is a partner in the Los Angeles office of Liebert Cassidy Whitmore (LCW), the chair of LCW’s Business and Facilities Practice Group, and a member of the Retirement, Benefits and Disability Practice Group Executive Committee. Her practice focuses on representing public entities in employment benefits law and nonprofits and public entities in matters relating to education, contracts, construction and various business arrangements. She can be reached at hdeblanc@lcw.wpxnew.riefmedia.com or (310) 981-2028.
Stephanie Lowe is an associate in LCW’s San Diego office, where she provides representation and legal counsel to public entities and educational institutions on matters pertaining to employment and labor law.
This article is shared with the permission of HR News.
