Health FSA Use-It-or-Lose-It Rule Modified to Allow $500 Carryover

In the recently released Notice 2013-71, the IRS modified its use-it-or-lose-it rule for Health Flexible Spending Accounts (FSAs). The ruling permits Health FSAs to adopt carryover provisions that allow up to $500 of unused funds remaining at the end of a plan year to reimburse medical expenses incurred in the following plan year.

Some important information for plan sponsors to note:

* A plan may not have both a carryover and a grace period provision. The grace period refers to a plan which allows participants an additional 2½ months from the close of the plan year to incur expenses attributable to the prior year's election. Also, such provisions are not required - a plan may choose to adopt neither a carryover nor grace period.

* Additional rules apply to plans that must be amended to eliminate a grace period. If a plan has provided for a grace period and is being amended to add a carryover provision, the plan must also be amended to eliminate the grace period provision by no later than the end of the plan year from which amounts may be carried over.

* Carryovers will not count against the annual limit on Health FSA salary reductions (currently $2,500).

* A plan sponsor may choose a carryover amount that is less than $500.

* Any amount in excess of $500 (or a lower amount specified in the plan) that remains unused as of the end of the plan year (that is, at the end of the run-out period for the plan year) is forfeited. Any unused amount remaining in an employee's health FSA as of termination of employment also is forfeited unless the employee elects COBRA continuation coverage with respect to the Health FSA.

* In general, amendments must be adopted on or before the last day of the plan year from which amounts may be carried over, although employers satisfying certain requirements have until the end of the 2014 plan year to formally adopt carryover amendments for the 2013 plan year.

* Plan sponsors offering a Health Savings Account (HSA) may have special considerations when deciding whether to move forward with the $500 carryover provision for their Health FSA. Although not addressed in the recent guidance, individuals who are covered by general-purpose Health FSAs are not eligible for HSA contributions. Given previous IRS guidance on the 2½ month grace period, it is possible that IRS rules regarding ineligibility for HSA contributions will apply to the new carryover feature as well.

For plans that want to add the $500 carryover, DBS does recommend that you consider implementing for a future date. This will give you time to communicate the change and give participants time to appropriately plan their elections. Further, plans that are switching from a grace period to carryover can avoid issues with participants who may still have high balances in their Health FSA at the end of the current plan year. 

Source: Health Now Administrative Services