May 14, 2020

IRS Increases Maximum FSA Carryover Limit, Clarifies Timing for Reimbursement of Premiums

The IRS recently issued new guidance for section 125 cafeteria plans pursuant to Notice 2020-33.  This guidance:

  • Increases the allowable carryover amount for health FSAs that have a carryover feature.
  • Closes a gap in previous guidance regarding the use of pretax contributions taken in one plan year to pay premiums for coverage in the following plan year.

The Health FSA Carryover Amount

IRS rules permit (but do not require) a health FSA to offer a carryover feature.  This feature is an exception the “use-it-or-lose-it” rule; it allows an individual to carry over any unspent health FSA funds to the following plan year.  While the unspent funds could be used at any time during that plan year, the maximum amount carried over could not exceed $500.

Notice 2020-33 increases the maximum carryover amount to $550.  The new maximum may be used for plan years beginning in 2020.

Some plans may be written in such a way that they automatically adjust the maximum carryover amount to track the maximum permitted by the IRS.  However, other plans will probably have to be amended if they wish to take advantage of the increased amount.

In general, amendments intended to take effect in a plan year must be made before the last day of the plan year.  However, a special rule permits plans that wish to make carryover amendments for the 2020 plan year to do so on or before December 31, 2021, provided the employer notifies all employees eligible to participate in the plan of the changes.

Normally, a plan change of this nature would not afford employees an opportunity to change their health FSA elections made prior to the start of the plan year.   However, as a result of a temporary expansion of the election change rules due to the COVID-19 pandemic (to be discussed in our next blog), employees will be able to make an election change in 2020 to take advantage of the additional carryover amount.

As always, these election changes can only be prospective; i.e., they will only apply to wages received after the election is made.

Timing for Reimbursement of Premiums

According to long-standing IRS rules, a health plan cannot reimburse expenses incurred before the beginning of a plan year for which an election is made.  An expense is considered as incurred on the date the service is provided.  This creates issues at the end of a plan year for cafeteria plans where an employee is required to pay premiums for coverage in advance of the month for which coverage is provided.   To avoid this, the IRS had previously permitted cafeteria plans to pay for coverage during the first month of the plan with amounts withheld during the last month of the year.

This relief had been extended to qualified small employers’ HRAs but had not been extended to individual coverage HRAs.  Notice 2020-33 corrects this anomaly by providing generally that the expense for a premium for health insurance coverage may be considered as incurred on:

  1. The first day of each month of coverage on a pro rata basis;
  2. The first day of the period of coverage; or
  3. The date the premium is paid.

Thus, in the case of an individual coverage HRA, a cafeteria plan can reimburse an employee for premium paid before the end of the plan year for coverage that begins on the first day of the plan year.

The information and content contained in this blog post are for general informational purposes only, and does not, and is not intended to, constitute legal advice. As always, for specific questions concerning your health plan, or for help in operating and/or amending your plan in response to COVID-19, please consult your own attorney or advisor.

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