Welcome back to our compliance miniseries!
Pitstop 2 of 3 in our "Documentation & Communication” part of our ICHRA compliance journey is the Section 125 Cafeteria Plan. Named after Section 125 of the IRS code, Cafeteria Plans govern employees’ ability to contribute pre-tax funds toward a variety of expenses.
While ‘cafeteria’ is not a reference to food (although that would be fun!), it is close as it’s a reference to the menu of options that an employee can pick and choose the benefits that are right for and available to them. In a Cafeteria Plan, an employer establishes which pre-qualified medical expenses employees can contribute toward and any company-specific governance rules or limitations around them.
Cafeteria Plans have significant tax benefits! With Section 125, employers can help employees save anywhere from 30-45% in federal, state, and local taxes on various expenses. For example, with a health plan where an employee pays $600 per month – or $7,200 yearly – can create more than $3,000 in savings for the employee yearly!
Establishing a Cafeteria Plan with the right compliance elements can be tedious and confusing – let alone with the various nuances of ICHRA. At Zorro, we help automate and administer the process end-to-end. In this post, we’ll cover Cafeteria Plans’ basic guidelines and FAQS.
A Cafeteria Plan is a detailed document that lists the qualifying expenses for employees, details around the plan administration, which employees are allowed to participate, and rules around participation (electing in and out, ways to make changes during the year, rules for new employees, etc).
Generally, any company with employees subject to income taxes in the US can sponsor a Section 125 plan (under any incorporation structure).
Self-employed individuals, partners within a partnership, and shareholders who own more than 2% of a subchapter S-corporation are not allowed to use a Cafeteria Plan for pre-tax contribution toward expenses.
Cafeteria Plans must adhere to 3 key guidelines that are all around ensuring fair equity and non-discrimination among employees:
Section 125 Plans are evergreen documents. However, an employer needs to sign an adoption plan on an annual basis outlining any changes in the benefits or governance of the offering, as well as a specification of which benefits are selected to be offered the following year.
ICHRA works seamlessly with Cafeteria Plans. As long as the plan is set up correctly, any amount that employees add to pay for health coverage beyond their employer allowance can be considered pre-tax. However, an employee must be enrolled in off-exchange coverage in order to qualify for this pre-tax status, and cannot be enrolled in a plan through the Exchange or Marketplace - even though they would not be receiving any Premium Tax Credits (PTCs).
This is critical in the administration of ICHRA plans: you want a vendor who can help enroll your employee in off-exchange plans directly with insurance carriers rather than through the Exchange so that employees can leverage the tax-benefits of their contributions similarly to group plans.
At Zorro, our platform automates creating the Cafeteria Plan and other compliance documentation and requirements in a smart and modular way.
Want to hop on this tax-benefit train? Schedule a call now!
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