Flexible benefit plans.
Easier than full cafeteria plans, FBPs save employees money and can pay for themselves.
Flexible benefit plans are good for the organization and good for your people. An FBP helps attract and retain good employees because employees can significantly reduce tax liability and take home more cash. As an employer, the association can also realize significant tax savings--typically savings will at least cover start-up and administration costs. And an FBP does not require that you change current benefits.
Flexible benefit plans are authorized under Section 125 of the Internal Revenue Code. Often called cafeteria plans, FBPs address only the pretax contributions employees are allowed to make rather than the full menu of benefit choices the more general term implies.
By offering a flexible benefit plan, you allow employees to direct a portion of gross salary to a special account and then to withdraw those pretax dollars to pay for qualifying expenses. That deduction reduces taxable income, and net take-home pay increases.
An FBP has three main categories:
1. the employee's portion of certain types of insurance premiums; 2. medical expenses not covered by insurance; and 3. adult and child dependent care expenses.
Insurance premiums that employees may pay with pretax dollars include health, dental, disability and accident, under $50,000 of group term life, and cancer insurance. If your employee's spouse has health insurance through a different employer, your employee's pretax dollars cannot pay for the spouse's insurance.
This category requires little hands-on administration because it works as a payroll deduction rather than a cash reimbursement. Some employers choose a simple premiums-only plan, or POP. The other two FBP categories are called spending accounts.
Medical expenses not covered by insurance are one of two spending accounts allowed under Section 125. Eligible expenses range from acupuncture to X-rays and include costs associated with annual physical and dental exams, vision care and eye exams, deductibles and co-payments on health and dental insurance, prescription drugs, chiropractors, mental health treatment, and other costs that fall outside insurance policy limits. (While the law does not limit the amount an employee may direct to this account, you should. We'll look later at why and how.)
The second allowable spending account is for adult and child dependent care. Dependent care expenses are for services paid for by the employee to enable his or her gainful employment, like a child's day camp. An eligible dependent is a child under 13 who qualifies as a dependent for federal income tax purposes, or any other dependents, including disabled children older than 13 and elderly parents who qualify as dependents for tax purposes and are incapable of caring for themselves.
The total amount claimed under this account for the plan year must not exceed the lesser of * $5,000 for one or more children ($2,500 if the employee is married and filing a separate tax return); * the employee's total wages or salary for the plan year; or * the wages or salary of the employee's spouse.
Under most circumstances it is more advantageous for the employee to pay for dependent care with pretax dollars than to take a direct credit on his or her tax return. The dependent care credit on the federal return is a percentage of qualified expenses, to a maximum $2,400 for one dependent and $4,800 for two or more.
Each year during the open enrollment period, employees make new elections to spending accounts. As understanding and acceptance of the plan grow, participation in succeeding years tends to increase significantly.
Good for everybody
Your employee's savings will depend on the amount directed to the FBP and on the employee's tax rate. On amounts directed to the plan, the employee will not have to pay any federal income tax, state and local taxes, or social security tax (assuming the employee's salary falls below the maximum social security wage base).
For example, say the Taylors have a joint income of $50,000 a year. They have two children who attend a day-care center at an annual cost of $4,800. They also have health insurance premiums of $1,000 a year and qualifying medical expenses of about $2,300 that are not covered by insurance. Without an FBP, the Taylors would incur about $11,600 in total taxes. With an FBP, their taxable income falls to about $42,000, but their tax liability also drops--to $9,600. Participating in the FBP saves the Taylors approximately $2,000 in disposable income.
Your association can also save:
* For employees earning less than the maximum amount taxed for social security, you will avoid paying the employer's portion of social security taxes on amounts directed to the FBP. * Insurance premiums may drop on policies such as workers compensation and disability insurance that are based on taxable salary. * You may also reduce retirement plan expenses based on taxable salary. * The association can earn interest income on balances in the FBP throughout the year.
Because of significant cost increases for health insurance and other fringe benefits, many associations would like to change or reduce insurance coverage provided to employees. If you implement an FBP at the same time you change coverage, you can significantly reduce the employee's expense for a larger deductible or new co-insurance. Offering an FBP creates a winning situation for everyone.
You can administer an FBP in-house or contract with an outside provider. If you stay in-house, initially you will need direction and sample documents from a third-party administrator, insurance broker or carrier, or benefits consultant. The most feasible in-house program is a premiums-only plan, which requires only a change to payroll records at the beginning of each plan year or when insurance premiums change.
To administer a full FBP in-house, the two main requirements are adequate staff to handle claims and a software support system to track cumulative claims and verify the accuracy of claims submitted against account balances.
What you spend to set up an in-house FBP depends on who helps. Third-party administrators are the specialists and prices vary a lot; ask your insurance broker for recommendations. A median, Washington, D.C.-area fee to start a program for any number of employees is $2,500, plus a one-time $30 charge per participant enrolled. Your insurance carrier or broker or legal counsel may provide documents--but not enrollment or other services.
Some insurance carriers will set up and administrate premiums-only or full flexible benefit plans as a loss-leader: You get no-frills service at little or no cost in return for your insurance business.
Third-party adminstrators may charge separately for writing the plan document, enrollment (which considers multiple locations, multiple shifts, and number and accessibility of employees), filing with the Internal Revenue Service (IRS), and testing for discrimination. For ongoing service, third-party administrators charge monthly fees on a per-employee, per-participant, or per-check basis. You may get a price break paying a flat rate for the whole staff (per employee rather than per participant), even if not everyone will participate. You can also keep fees down by limiting the number of checks written.
Whether your association decides to administer a plan in-house or through a third party, you can use this administrator's checklist: * Prepare the plan document, summary plan description, trust agreement, and corporate resolution. * Conduct group presentations to explain the program to eligible employees. * Prepare forms for employees, including salary adjustment affidavit or waiver of participation, and information pamphlets. * Enroll employees. For spending accounts, each employee should be individually counseled. * Prepare monthly employer and quarterly employee status reports for each participant. * Prepare IRS form 5500 (or 5500-C for associations with fewer than 100 employees) at the end of the plan year. The employer has seven months after the end of each plan year to file. * Maintain computer and physical records regarding claims and reimbursements. Claim checks are normally cut once or twice a month. (If the administrator has signature power for employee checks, make sure he or she also has errors-and-omissions insurance and bonding.) * Be available to answer questions. * Test the plan for discrimination. Basically, no more than 25 percent of benefits can accrue to the highly compensated. If the plan is found to discriminate, benefits to the highly compensated are taxable. However, the plan itself is not disqualified, and those who are not highly compensated can still enjoy the FBP's tax-free benefits. Other rules also apply, so consult your administrator or legal counsel.
Selling the plan
Staff desire to participate and perception of the FBP as a benefit are more important than the size of the group. Ten employees who pay a portion of their insurance premiums and would like to pay dependent care expenses with pretax dollars are excellent candidates for an FBP.
An employee survey prior to implementing an FBP is not necessarily the best indicator of potential participation. Preplan surveys tend to confuse employees because they don't have complete information about how FBPs work. People are usually nervous about losing money they direct to a spending account.
Success depends on participation. When enough employees enroll, the association covers its costs and liabilities. And explained clearly, an FBP can sell itself: Participants are guaranteed to save money as long as they don't overestimate the amounts they will use for health and dependent care.
Your communication plan needs two key elements: a short, readable description and individual counseling. One group I'm familiar with had 1,500 employees but only 22 plan participants after two years because their 20-page fact sheet was overwhelming.
You or your plan administrator can prepare a group presentation for eligible employees. Afterward, interested employees can meet individually with human resources staff or the plan administrator to talk over questions and complete a worksheet that determines whether spending accounts will save the employee money. It's smart to underestimate coming expenses to prevent losing money at the end of the plan year--and you can always spend that last $100 on a new pair of eyeglasses.
Restrictions on FBPs
Take note of three restrictions under Section 125. A 1990 IRS regulation makes the association liable for what the employee elects to direct to a medical expense spending account for the plan year. For example, an employee elects to deduct $50 per month from gross pay for his or her health care account; that's a total of $600 for the plan year of January 1 through December 31. If the employee files a claim for $600 in February, you must reimburse the full amount even though he or she has paid in only $100--$50 each for January and February. If the employee leaves in March, having paid in $150, the association is liable for the difference. The employer's ability to recover this difference from the employee varies by state.
While IRS in effect puts the risk on the employer, the association can minimize it. Establish a probationary period of employment before employees enter the plan, limit the total amount the employee can direct to the health care account--often $1,000-$2,000--or set dollar limits by category of service. Most employers do not find restriction a problem, because forfeitures--by employees who leave with money left in their accounts and do not elect coverage under the Consolidated Omnibus Budget Reconciliation Act of 1984 (COBRA)--offset losses.
The second restriction is that money allocated to one spending account cannot be used for another account. That is, if the employee has excess money in the child care account, it cannot be applied to the medical reimbursement account.
The third restriction is the "use it or lose it" provision: Participants lose any balance left in their accounts at the end of the plan year. Employees elect options and specify the amount of contribution prior to the start of the plan year, and estimating conservatively is best, particularly in the first year. They may change elections only upon a change in premiums, family status (divorce, marriage, birth or adoption of a child, death or disability of a dependent), or employment status of the employee or spouse. These are not serious problems and can be handled by a good communication program, group meetings, and individual counseling.
Future of FBPs
In the budget-cutting climate of the recession, there is valid concern that Congress could kill a provision like flexible benefit plans. However, many state governments, Fortune 500 companies, and small employers offer FBPs to their employees, and the federal government is considering a cafeteria plan. That growing constituency lends clout to groups like the Employer's Council on Flexible Compensation, Washington, D.C., working to protect FBPs.
For a flexible benefit plan to be a winner, everyone must use it to its maximum potential. The more employees participate, the more they and the employing association gain. Tax savings, employee satisfaction, and boosted morale will more than offset the cost of offering a flexible benefit plan.
Jane Robinson McLaughlin is president of Robinson McLaughlin & Associates, Califon, New Jersey, and Chevy Chase, Maryland, an insurance and benefits specialist. Patricia E. Anderson is an associate with Member Benefits Services, Inc., Silver Spring, Maryland.
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|Title Annotation:||includes related article|
|Author:||Fisher, Gretchen A.|
|Date:||Sep 1, 1991|
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