Crowell & Moring

The following article was originally prepared by Crowell & Moring, LLP on behalf of the American Benefits Council.

On October 31, 2013, the Internal Revenue Service (IRS) released Notice 2013-71 (Guidance), which modifies the existing “use-it-or-lose-it” rule for health flexible spending accounts (FSAs) set forth in proposed regulations under Section 125 of the Internal Revenue Code (Code) to allow for a limited “carryover.”

Under the Guidance, cafeteria plans under Code Section 125 can be amended to allow up to $500 of unused amounts remaining at the end of a plan year in a health FSA to “carry over” and be paid or reimbursed to plan participants for qualified medical expenses incurred during the following plan year, provided that the plan does not also incorporate the two-month, 15-day “grace period” allowed under current IRS guidance. The carryover of up to $500 does not affect the maximum amount of salary reduction contributions that the participant is permitted to make under Code Section 125(i) (currently $2,500 adjusted for inflation).

The Guidance also provides clarification of transition relief that applies to Code Section 125 plans with non-calendar-year plan years beginning in 2013. The transition relief gives employees participating in such plans expanded flexibility to make changes to their salary reduction elections.

The availability of the carryover rule will provide increased flexibility for employers with respect to plan design and, if adopted, will enable employees to avoid forfeitures of certain unused amounts. Nonetheless, certain issues are left unaddressed by the Guidance, including how the carryover rule could affect an individual’s eligibility to make contributions to a Health Savings Account (HSA), as well as the potential implications of replacing a planned grace period for 2013 with the FSA carryover rule. Employers should carefully consider these issues in deciding whether to adopt the carryover rule for the 2013 plan year (and for 2014 and beyond), or to wait until further guidance is issued.

This Blueprint provides background on the prior rules relating to FSAs, summarizes the new Guidance, and discusses some of the open issues that employers will have to consider.

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