An Internal Revenue Code Section 125 Cafeteria Plan is a method of allowing employees to pay for qualified benefits on a pre-tax basis. In its simplest form, it is a premium only plan, which allows employees to pay for health insurance premiums before tax. In its most complicated form, an employer may offer employees flex credits to select among various benefits or a cash-out option.
Qualified benefits that may be offered through a cafeteria plan include:
- Accident and health benefits
- Adoption assistance plans
- Dependent care assistance plans
- Group-term life insurance coverage
- Health Savings Accounts (HSAs)
Written Plan Document Requirement
The Internal Revenue Code requires that a cafeteria plan be in writing prior to the plan's effective date. If a plan is not in writing or does not operate according to its written document, the newly proposed rules issued in 2007 indicate that the plan could lose its tax-favored status resulting in tax liability for the employees and employer.
When Can Employees Change Their Elections?
Participants in a cafeteria plan must be given the opportunity at least annually to make or change elections. This is typically during an open enrollment period. However, a cafeteria plan is not required to allow mid-year changes.
At minimum, a cafeteria plan must permit certain individuals who qualify for HIPAA Special Enrollment Rights to enroll in coverage. However, the cafeteria plan may be designed that the individual must pay for the coverage on a post-tax basis outside of the cafeteria plan until the next enrollment period. For more information on Special Enrollment Rights, please see the HIPAA section of this website.
Additionally, upon the decision of the plan sponsor and provision in the plan document, a cafeteria plan may permit mid-year changes based on the following events:
- Change in status (including marital status, number of dependents, employment status, dependent ceases to satisfy eligibility requirements, change in residence, or adoption).
- Change in cost with an automatic increase or decrease to employee contributions.
- Significant cost changes.
- Significant curtailment in coverage (including loss of coverage, increase in co-payments, or increase in co-insurance).
- Addition or significant improvement of benefit options.
- Change in coverage under other employer plan.
- Loss of group health coverage through government or educational institution.
- Entitlement to Medicare or Medicaid.
- Leave of absence under FMLA or USERRA.
If the plan receives a judgment, decree, or order requiring coverage for an employee's dependent child, such as a Qualified Medical Child Support Order (QMCSO), the plan should allow the addition of coverage. However, as with the Special Enrollment Rights, the plan may decide that the individual must pay for the coverage on a post-tax basis outside of the cafeteria plan until the next enrollment period.
The change in election must be consistent with the event and the plan may allow "tag-along" changes for existing spouses and dependent children.
For assistance in setting up or maintaining a cafeteria plan for your employees, please contact your advisor. We can help answer your quailfying event questions, assist with documentation, and provide resources for the required annual discrimination testing.
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