IRS guidance (2013-71) issued Oct. 31, 2013 has created an exception to the longstanding "use-or-lose" rule associated with health flexible spending arrangements (FSAs). The rule has been modified to now allow health FSAs to carryover up to $500 of unused amounts into the next plan year.
New Carryover Rule
Effective immediately, employers may offer a carryover of up to $500 in unused FSA funds.
The maximum carryover amount for any plan year is $500; however, employers may specify a lower amount or not permit the carryover at all. The accumulated unused amount carried over plan year to plan year cannot exceed $500.
The same carryover limit must apply to all plan participants.
Plan documents must be amended to include the carryover provision.
Plan documents must be amended no later than the last day of the plan year from which amounts may be carried over. The plan amendment may be effective retroactively to the first day of that plan year.
Plan participants must be informed of any change.
An FSA carryover provision and an FSA grace period cannot be offered at the same time.
If an employer has a grace period and is amending their plan to include 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.
Note: The ability to eliminate a grace period previously adopted may be subject to other legal constraints (e.g. ERISA).
Note: UnitedHealthcare's small business platform (2-99) will continue to only administer the grace period option (not the new carryover option).
Health FSA run out periods are still permitted.
Any unused amounts above the employer-established carryover limit are still subject to forfeiture.
Unused amounts are not permitted to be cashed out or converted to any other taxable or nontaxable benefit.
The employer-established carryover limit will not count against the health FSA salary reduction contribution maximum (currently, $2,500).
A plan participant is not required to make a salary reduction contribution to the FSA in the subsequent year to access the carryover funds.
Carryover option can be offered with a limited purpose FSA.
The carryover option is not available for dependent care FSAs. As such, any grace period elected for dependent care will not be impacted.
UnitedHealthcare will begin administering this carryover option for employers as of Jan. 1, 2014, and employer groups can elect to apply this carryover option to their 2013 plan year. To do so, an employer will need to amend their plan document. Employer groups will be responsible for determining the content of such amendments.
Video: FSA, HSA, HRA Changes
Learn about changes to these health spending accounts, particularly over-the-counter medications, under the Patient Protection and Affordable Care Act. View video
How will this affect my debit card transactions for HSAs?
As of 6/11/10: It is the account holder's responsibility to only use the HSA debit card for eligible medical expenses as defined by the IRS or to pay the applicable penalties if ineligible expenses are reimbursed. Starting January 1, 2011, eligible expenses will no longer include OTC medicine unless prescribed. HSA account holders will still be able to use an HSA to pay for insulin. If an HSA account holder has a prescription for an OTC medicine and they use an HSA to pay for such medicine, they will need to keep the prescription and receipt for the purchase along with their tax records. Consult the HSA tax center at Optum Bank or the IRS web site for more information.
If my health FSA or HRA issues a debit card that I use to pay for over-the-counter medicines or drugs, will I still be able to use the card to purchase over-the-counter medicines or drugs after Dec. 31, 2010?
Generally, yes, if you have a prescription for the medicine or drug. Starting after Jan. 15, 2011, you may continue to use an FSA or HRA debit card to purchase over-the-counter medicines or drugs at these vendors, so long as you obtain a prescription for the medicine or drug, the prescription is presented to the pharmacist, and the medication is dispensed by the pharmacist and given an Rx number.
Participants will also still be able to be reimbursed from their health care FSA, HRA, RRA or FHRA/VEBA for a prescription OTC medicine purchase; they will need to pay for the expenses out-of-pocket and submit a copy of their prescription and receipt for the purchase.
For further information, including guidance on purchases of over-the-counter medicines and drugs from health care providers other than pharmacies and mail order and web-based vendors (such as physicians or hospitals), see IRS Notice 2011-5. For guidance on debit card purchases at "90 percent pharmacies," see IRS Notice 2010-59.
As of January 15, 2011, what is the process for using an FSA or HRA debit card to purchase OTC drugs?
The new guidance modifies Notice 2010-59 and permits the use of FSA and HRA debit cards for OTC drug purchases provided:
prior to purchase, a prescription is presented to the pharmacist;
the OTC medication is dispensed according to state prescribing laws and an Rx number is assigned;
records of the sale are maintained by the pharmacist (i.e. Rx number, name of purchased, date and amount of the purchase) and made available upon request; and
the debit card system will not accept a charge for an OTC medication unless an Rx number has been assigned.
Provided the above requirements are met, effective January 15, 2011, the debit card transaction will be considered fully substantiated at the time and point-of-sale.
What about plans that don't run along the calendar year (January to December) but, for example, from June to May?
The new restriction on non-prescription OTC medicine or drug purchases takes effect January 1, 2011. In other words, the OTC restriction is effective for expenses incurred on or after January 1, 2011, regardless of whether an employer's plan is a non-calendar year plan. Employers should modify their plan documents to comply with the law and notify employees as required.
Which tax-advantaged health accounts does the OTC change affect?
The OTC change affects all types of tax-advantaged health accounts, including HSAs, health care FSAs, HRAs, RRAs and FHRA/VEBAs. Starting January 1, 2011, account holders may not use the accounts for OTC medicines unless they have a prescription. Account holders will still be able to use a tax-advantaged health account to pay for insulin.
Are other medical supplies like contact lens solution, bandages, blood-sugar test kits and durable medical equipment (such as wheel chairs or hospital beds) affected by the limit on OTC medicines?
The new reimbursement restrictions apply only to medicines and drugs and not to other items that qualify as medical expenses under section 213(d)(1) of the Code, including equipment such as crutches, supplies such as bandages, and diagnostic devices such as blood sugar test kits. Items may qualify as medical care if they otherwise meet the definition of medical care in § 213(d)(1), which includes expenses for the diagnosis, cure, mitigation, treatment, or prevention of disease, or for the purpose of affecting any structure or function of the body. However, expenses for items that are merely beneficial to the general health of an individual, such as an expenditure for a vacation, are not expenses for medical care.
A client stated that the current list of OTC medicines will be reduced but some products may still be allowed. Do you have any details on that?
The IRS has recently issued Notice 2010-59 which allows for OTC items that are not medicines or drugs, but otherwise meet the definition of medical care (e.g. crutches, bandages or blood sugar testing kits).
If a plan participant obtains a prescription for an OTC medicine, do they need to present it to the pharmacist in order to submit a claim and be reimbursed?
If the plan participant wishes to use their FSA or HRA debit card to purchase the OTC medicine, then the prescription for that OTC medicine must be presented to the pharmacist for entry of the Rx number into the data record while making the purchase. The plan participant may also choose to purchase the OTC medicine out-of-pocket. In order to be reimbursed for a prescription OTC medicine out-of-pocket purchase, a copy of the prescription and receipt for the purchase must be submitted to the FSA or HRA.
If the plan participant purchases an OTC medicine with an HSA, they will need to keep a copy of the receipt and the prescription to verify that withdrawals were made to pay for eligible medical expenses.
Will an employer need to update their summary plan description (SPDs) to reflect the changes to OTC restrictions, the FSA contribution limit and the new definition of dependent children?
The law change will require employers to update plan documents for 2011 to comply with the restrictions on OTC medicine or drug purchases (if those were eligible expenses under the plan) and the changes to the definition of dependent children (if employers want to allow employees to include them in their cafeteria-plan elections). Looking ahead, plan documents may also require updating to comply with the restrictions on employee contributions to health care FSAs effective on Jan. 1, 2013.
If a plan participant incurs an eligible OTC medicine expense during the 2010 plan year, can they still submit it for health care FSA, HRA, RRA or FHRA/VEBA reimbursement during the run-out period?
As of 6/11/10: Yes, provided the expense is incurred on or before December 31, 2010 and provided that the OTC medicine expense is an eligible expense under your employer's plan.
If a customer's plan has a grace period attached to the 2010 plan year, can the participant continue to incur eligible OTC medicine or drug expenses through the grace period?
No. As of January 1, 2011, consumers may not pay for OTC medicines or drugs from tax-advantaged health accounts unless prescribed.