In 1989, when the Internal Revenue Service wrote the first proposed regulations for health flexible spending accounts (“FSAs”), it came up with the requirement that health FSAs must exhibit the “risk-shifting and risk-distribution characteristics of insurance”. This concept has been translated into of the “uniform coverage” rule.
The uniform-coverage rule requires that the maximum amount of an employee’s elective contributions to a health FSA must be available from the first day of the plan year to reimburse the employee’s qualified medical expenses. This means that if an employee elects to contribute to the health FSA $100 per month for the year, the employee must be reimbursed for qualified medical expenses up to the full $1,200 from the first day of the year, regardless of the amount actually contributed to the plan at the time that reimbursement is sought.
Under the uniform-coverage rule, an employee can potentially terminate employment having been reimbursed under the health FSA for more than she contributed up to the time of her termination. This rule has caused most employers to limit the amounts that employees can contribute to a health FSA, even though, prior to the effective date of provisions in the recent healthcare reform legislation ($2,500 annual cap after 2012), there is no statutory limit on contributions to health FSAs.
On March 26, 2010, the IRS released Chief Counsel Advice No. 201012060 (pdf), in which the Chief Counsel concluded that, if an employee's reimbursements from a health FSA exceed her contributions to the health FSA at the time of the termination of her employment, the employer cannot recoup the difference from the employee. Neither the previous proposed regulations nor the current proposed regulations regarding health FSAs (Prop. Treas. Reg. § 1.125-5(d)(1) (pdf)) stated explicitly that such recoupment is not permitted. This has always been known by practitioners to be the rule, much to the chagrin of our clients. Any attempt at recoupment of this sort will remove the risk shifting/risk distribution and result in the loss of favorable tax status for the benefits paid under the health FSA.
*This post was written by Timothy J. Snyder, Esq. Tim is the Chair of Young Conaway’s Tax, Trusts and Estates, and Employee Benefits Sections. His primary area of practice is employee benefits, which involves both the benefit provisions of provisions of the Internal Revenue Service and ERISA. He represents business and professionals in establishing, monitoring, and administering employee-benefit plans, new comparability retirement plans, non-qualified deferred-compensation plans, health, disability and life benefits, COBRA, HIPAA, ADA and ADEA.