In the wake of the COVID-19 pandemic, many employers are dealing with how to handle employees requesting to make changes to their Section 125 or Cafeteria Plan elections. For instance, an employee's Dependent Care Assistance Program (DCAP) election when they are no longer working and not in need of childcare, or alternatively, an employee’s childcare program/center/provider has closed due to the pandemic.
On May 12, 2020, the IRS issued Notice 2020-29, which, among other things, allows employers to amend their plan documents to permit employees to make mid-year changes prospectively for health flexible spending arrangements (health FSAs) and DCAPs.
This article looks at options for DCAPs, FSAs and transit benefit concerns. Charts showing common situations are included.
Dependent Care Assistance Programs
DCAPs, sometimes referred to as “dependent flex spending accounts,” are an employer-sponsored plan to provide the exclusive benefit of dependent care assistance. Under the Internal Revenue Code (IRC) employees can exclude up to $5,000 annually from the gross income for dependent care. DCAPs are subject to flexible spending arrangement rules under the IRC.
Because of their tax favored status, DCAPs are subject to many regulations. Any common law employee can participate in a DCAP. To have dependent care expenses reimbursed by the program the following general requirements must be met:
- The expense must enable the employee (and their spouse) to be gainfully employed
- The expense must be for a qualifying individual (a child under the age of 13)
- The expense must be for care, not education (daycare is acceptable, private school tuition is not)
- The expense must be incurred in the coverage period (the plan year)
- The expense must be substantiated
Exclusion from Income
An employee's exclusion from income for payments under a DCAP in a calendar year is limited to the smallest of the following amounts:
- $5,000 if the employee is married and filing a joint return or if the employee is a single parent ($2,500 if the employee is married but filing separately);
- The employee's “earned income” for the year; or
- If the employee is married at the end of the taxable year, the spouse's earned income
The spouse of a married employee is deemed to be gainfully employed and to have an earned income of not less than $250 per month if there is one qualifying individual, or $500 per month if there are two or more qualifying individuals in each month during which they are a full-time student, or is incapable of self-care and has the same principal place of abode as the employee for more than half the year.
Leave of Absence
If an employee takes a leave of absence they may no longer be considered “gainfully employed” and eligible for dependent care reimbursements during their leave. In general, this is determined daily, however, there is an exception to the “daily basis” rule for certain short, temporary absences (e.g. Emergency Paid Sick Leave) and part-time employment.
This exception is based on the IRS regulations establishing a “safe harbor” under which an absence of up to two consecutive calendar weeks is treated as a short, temporary absence. However, whether an absence for longer than two weeks qualifies as short and temporary is determined on the basis of facts and circumstances.
Likewise, when it comes to FMLA, the IRS does not agree that one’s entire absence under FMLA (which guarantees eligible employees up to 12 weeks of unpaid leave for certain purposes) is appropriate as a temporary absence safe harbor, noting that an absence of 12 weeks “is not a short, temporary absence” within the meaning of the regulations.
Reimbursements are subject to the same rules as flexible spending arrangements (FSAs). The period of coverage must be 12 months unless there is a short plan year. DCAPs that are underspent lead to forfeited money, unused contributions cannot carry over from year to year. DCAPs are not subject to COBRA and the participant has no right to coverage after their plan participation terminates. Employers can provide for a spend-down provision in their plan documents to allow former employees to receive reimbursement through the end of the plan year in which they terminated employment and coverage. If the plan document does not provide for this spend down, the funds are forfeited.
Reimbursements During Leave of Absence
Although the employee may not be eligible to reimburse dependent care expenses while on leave, an employee on LOA may be able to continue to participate in (and make contributions to) a DCAP but any reimbursements from the DCAP will still be subject to the gainfully employed rule and would have to fall within the exception for short, temporary absences.
Changes to Elections
Under the cafeteria plan regulations, elections are irrevocable unless a permitted event occurs or there is an exception. For DCAPs this is:
- A change in status
- A change in cost and coverage
- FMLA (employees taking FMLA leave can revoke elections of non-health benefits and reinstate their benefits upon return from leave)
Notice 2020-29 addresses an exception and allows cafeteria plans to be amended to permit employees to make mid-year election changes to prospectively revoke an election, make a new election, or decrease or increase an election to a health FSA (including a limited purpose health FSA) or DCAP.
|IRS rules govern dependent care assistance programs (DCAPs) also known as dependent care FSAs, including the requirement that elections are generally irrevocable except in the case of a “change event”. However, an employer is not required to recognize all the IRS permitted election changes when designing their FSA plan. Therefore, if an employee requests to change their dependent care FSA election, employers need to be mindful of:
|Dependent Care Event||Election Change|
|A new childcare provider is available at a different cost than the current provider. Includes someone (e.g. parent, older sibling) agreeing/able to watch the child for free.||Employee may increase or decrease election amount consistent with change in qualified dependent care expenses. Employee may cancel the election if child is now being cared for at no cost.|
|Enrolling child at a childcare provider closer to home or new work location.||Employee may increase or decrease election amount consistent with change in cost.|
|An employee or their spouse has a new work schedule (including to or from part-time status), and a different number of hours of childcare are required.||Employee may increase or decrease election amount consistent with change in cost.|
|A child who was not previously enrolled in childcare, now needs a childcare provider due to schools being closed.||Employee may enroll in dependent care FSA. Or increase their election if they are enrolling an additional child not previously enrolled in childcare.|
|A child’s daycare closed.||Employee may decrease or cancel their election.|
It is likely that many of the reasons an employee no longer needs childcare as the result of the COVID-19 pandemic would allow them to change their DCAP contributions, potentially reducing them to zero dollars, particularly if their child has been pulled from care (change in cost and coverage), or they are taking FMLA leave (including the newly created FMLA leave under the new FFCRA).
Therefore, employers should be lenient and allow employees to change their DCAP contributions within the above scenarios. Employers with employees who are laid off (not expected to return to work) should consult with counsel to see if their plan documents allow for a spend down, or if that change can be made mid-plan year.
In addition, under the new guidance, an employer is also permitted to amend their plans retroactively to January 1, 2020 to permit an employee to revoke their DCAP election prospectively which in turn would give more latitude for permissible reasons for an employee to change their DCAP contributions mid-plan year.
Healthcare Flexible Spending Account Programs (HCFSAs)
REMINDER: A health care FSA may (but is not required to) permit an employee to change their health FSA election for IRS permitted qualifying change in status events. Employers should refer to their FSA plan documents to determine which events their plan recognizes. Employers wishing to allow the new temporary exception due to the pandemic must amend their plans by 12/31/2021 but the change can be retroactive to 1/1/2020.
Similar to DCAPs, health FSA elections generally are irrevocable and the IRS only permits mid-year changes when an IRS approved qualifying status change has occurred. However, due to the pandemic, the IRS is now permitting employers to amend their plans to temporarily allow each eligible employee to make prospective election changes or an initial election for the 2020 calendar year, regardless of whether the election change satisfies one of the permitted election changes under applicable Treasury regulations. Any change in employment status of the employee, spouse or dependent that affects eligibility for the health FSA is a qualified status change and the change in the election must be on account of the qualified status change.
Commuter Benefit Programs
During this COVID-19 pandemic, employees may be staying at home with a child, working remotely or not working at all. The qualified transit or qualified parking elections previously made may no longer be needed now or perhaps for the foreseeable future.
If the employee is no longer in need of mass transit or parking costs, the employee may make a change to their elections, even down to $0. The materials provided at hire or during open enrollment should be reviewed to determine the frequency and timing of when employees may make changes to their election. The employer can set the timing, for instance a change can be made at the next payroll period or perhaps the first of the month.
If no election change is made, the elections will automatically continue, and funds will continue to rollover monthly. If an election change is made, the funds available prior to the election change will continue to rollover to the next month and elections will be reduced.
Employers are encouraged to advise employees of their commuter benefit program options and a reminder of how to make the election change by paper, online through payroll, their benefits administration platform or another source.
Current monthly contributions levels are released annually by the IRS and can be found here.
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This document was authored by the Alera Group Compliance team. Alera Group based in Deerfield, IL serves thousands of clients nationally in employee benefits, property and casualty, risk management and wealth management. Alera Group is the 15th largest independent insurance agency in the country.
The information contained herein should be understood to be general insurance brokerage information only and does not constitute advice for any particular situation or fact pattern and cannot be relied upon as such. Statements concerning financial, regulatory or legal matters are based on general observations as an insurance broker and may not be relied upon as financial, regulatory or legal advice. This document is owned by Alera Group, Inc., and its contents may not be reproduced, in whole or in part, without the written permission of Alera Group, Inc.