Understanding Employee Benefits and key developments in the employee benefits field and items of interest to our clients. MORE

As employers who sponsor cafeteria plans know, flexible spending accounts (FSAs) under those plans have had a “use it or lose it” rule. Under that rule, employees who participate in the spending accounts must make elections at the beginning of the year to set aside amounts to pay medical expenses under a medical FSA or dependent care expenses under a dependent care FSA and must forfeit amounts if insufficient claims were incurred during the applicable period. The applicable period is the end of the plan year or, if the employer has so designed the plan, at the end of a grace period which can be as long as 2½ months after the close of the plan year.

The risk of forfeiture discourages employees from taking advantage of the FSAs, which otherwise allow employees to pay for medical expenses or dependent care expenses on a pre-tax basis. The concern is particularly prevalent among lower paid employees who do not want to assume the risk of loss with respect to the accounts. The IRS recently announced a change in the rule, a change available even for the 2013 plan year.

Under the changed rule, a plan participant can roll over up to $500 of unused amounts from one plan year to the next. The rollover is allowed only for medical FSAs and not for dependent care FSAs. On the other hand, because dependent care expenses are often more predictable, employees have generally had fewer forfeitures of dependent care expenses.

The maximum amount that an employee can elect to contribute to a medical FSA is $2,500 for a year. That limit was imposed effective in 2013 by the Affordable Care Act, the healthcare reform law. An employee who rolls over the $500 can still elect $2,500 the following year, giving that employee an account of $3,000 for the following year. Both the newly elected amount plus the amount rolled over are available for reimbursement for medical expenses incurred during the following plan year. Of course, if the employee terminates employment and does not elect COBRA with respect to the FSA, unused amounts may ultimately be forfeited.

Employers are not required to provide the rollover. Employers that do may not also provide a grace period under the plan, the 2½ month period after the close of the plan year during which a participant can continue to incur claims against the prior year’s election. A plan may offer either the grace period or the rollover provision, but not both.

An employer that wants to add the rollover feature must adopt a plan amendment to do so. The plan amendment must generally be adopted by the end of the plan year in which the rollover will become effective. However, with one exception for the 2013 plan year, the amendment can be adopted by the end of the 2014 plan year so long as the plan is administered in accordance with the new feature. The exception involves the grace period:  If the plan provides a grace period, the plan must be amended to remove it by the last day of the plan year to which it relates. In other words, a grace period associated with the 2013 plan year must be removed by December 31, 2013.

Employers interested in adding this new feature should discuss with their third party administrators how the provision will work in operation and contact their plan document providers about making the change.

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