The IRS recently issued a private letter ruling answering whether or not an employer could contribute a different amount to a former employee’s HSA than they did to a current employee’s HSA. The quick answer is, “Yes they can.” However, understanding how this is possible could help you avoid discriminatory missteps that wouldn’t result in the same answer.
While contributions to former employee HSAs may or may not happen frequently, employers should always remain diligent with regard to nondiscrimination requirements. Failure to follow certain comparability requirements could result in a 35% excise tax on all employer contributions not just on the discriminatory contributions. Ouch!
As a reminder, an employer is not required to contribute to the HSAs of its employees. In general, however, if an employer does make contributions to any employee’s HSA, the employer must make comparable contributions to the HSAs of all comparable participating employees. This is commonly referred to as the comparability rules.
What Are Comparable Contributions?
Comparable contributions are defined as the same amount or the same percentage of the deductible under the employer’s high-deductible health plan (“HDHP”).
Who Are Comparable Participating Employees?
Comparable participating employees is defined as eligible individuals who are in the same category of employees and who have the same category of HDHP coverage.
- Categories of employees: (1) current full-time employees; (2) current part-time employees; and (3) former employees. Collectively bargained employees, generally, are not comparable participating employees.
- Categories of HDHP coverage: (1) Self-only; (2) self plus one; (3) self plus two; and (4) self plus three or more.
If contributions are determined not to be comparable within employee and coverage categories, then they fail the comparability testing and all HSA contributions made by the employer are subject to the 35% excise tax.
Because ‘former employees’ is its own comparable testing category, HSA contributions can differ from those made to current employees. Keep in mind, however, you are still required to make comparable contributions within the “former employee” testing category.
Cafeteria Plan Contributions
If employees* are allowed to make pre-tax HSA contributions through a cafeteria plan, the comparability rules do not apply. Instead, contributions are subject to the nondiscrimination requirements of cafeteria plans. These rules allow contributions in different amounts to different groups of employees as long as the contributions do not discriminate in favor of highly compensated employees.
*A cafeteria plan would not apply to a former employee since that individual (a) is no longer an employee and (b) would have no right to make pre-tax contributions.