The IRS has
issued Notice 2013-71 which modifies the longstanding "use-it-or-lose-it"
rule for health flexible spending accounts ("FSAs"). Under
this guidance, employers may allow health FSA plan participants to
carry over up to $500 of their unused account balances from one plan
year to the next.
Health FSA plan
participants are subject to the use-it-or-lose-it rule, which
originally required any unused health FSA account balances remaining
at the end of the plan year to be forfeited. The IRS implemented the
use-it-or-lose-it rule to prevent high-income employees from using
health FSAs as vehicles for deferred compensation.
To mitigate the
burden of the use-it-or-lose-it rule, the IRS subsequently created a
"grace period" rule for health FSAs. Under the grace period
rule, employers may allow health FSA plan participants a two and
one-half month grace period during which amounts unused at the end of
a plan year may be used to pay qualified FSA expenses incurred during
the first two and one half months of the following plan year. While
the IRS has not changed the grace period rule, Notice 2013-71 states
that a health FSA plan may provide either the grace period or the
$500 carryover option, but not both.
PPACA, which was
enacted in 2010, capped health FSA salary reduction contributions at
$2,500 per year. The IRS has confirmed that the $500 carryover does
not affect the $2,500 salary reduction limit.
Under the Notice,
the maximum unused amount permitted to be carried over in any plan
year is $500, but a plan may specify a lower amount as the permissible
maximum, and the plan sponsor has the option of not permitting any
To use the new
carryover option, employers must amend their health FSA plans to set
forth carryover provisions. Such amendments must be made to health
FSA plans on or before the last day of the plan year from which
amounts may be carried over. The amendment may be retroactive to the
first day of the plan year. Health FSA plans that are being amended
to provide for carryovers must eliminate any previously permitted
grace period. Employers that wish to amend their health FSA plan to
provide the carryover options are advised to do so under the guidance
of qualified employee benefits counsel.
provision may be adopted for plan years beginning on or after January
can be accessed at: http://www.irs.gov/pub/irs-drop/n-13-71.pdf