On February 14, 2019, Senator Roy Blunt (R-Mo.) introduced bill S. 503 “to provide the opportunity for responsible health savings to all American families.”  The bill would increase the annual maximum amount that can be contributed to health flexible spending accounts (“FSAs”) as well as permit unused benefits to carry forward by amending section 125(i) of the Internal Revenue Code.  Currently, the bill has been referred to the Senate Finance Committee.

A health FSA is an arrangement between an employer and employee in which an employee elects to set aside wages for the upcoming year to pay for out-of-pocket health expenses with pre-tax dollars.  Permissible health expenses are those medical expenses treated as deductible under section 213 of the Code, which includes insurance copays and deductibles, qualified prescription drugs, medical devices, etc.

There are various restrictions related to the operation of an health FSAs.  For example, a medical expense may be reimbursed from an FSA only to the extent it has not already been reimbursed and is not reimbursable under any other health plan.  Additionally, the Affordable Care Act (the “ACA”), enacted in 2010, changed other aspects of the health FSA.  The ACA disallowed the use of a health FSA to pay for over-the-counter medications unless prescribed by a physician.  In addition, the ACA established an annual cap  for health FSA contributions.  The cap, which is currently at $2,700 after inflation adjustments, is the maximum amount an individual can contribute to the health FSA.  (An employee who is eligible to participate in multiple health FSAs of unrelated employers may, however, participate up to the cap in each employer’s health FSA.)  Prior to the ACA, there were no health FSA contribution limits for individuals, and the IRS permitted employers to enact any maximum annual election.  Most employers generally imposed a cap on health FSA elections of $5,000 or some lower limit.  The reduced cap imposed by the ACA served as a revenue raiser, was intended to help fund the cost of the ACA, and was estimated to generate approximately $13 billion in additional revenue between 2013 and 2019.  One disadvantage for using a health FSA prior to the ACA related to the inability to carry over amounts elected to be set aside from one year to the next.  The ACA permits an employee to carry over $500 into the following year without losing the funds.

Senate bill S. 503 modifies the tax exclusion for contributions to health FSAs by (1) increasing the annual limit on employee contributions to $5,000, with an additional $500 for each additional employee dependent above two dependents that has not been taken into account by another person for the year; and (2) allowing a carryforward of all unused amounts in the FSA into the following year.  Taken together, these changes, would make health FSAs more similar to health savings accounts (“HSAs”).  Health FSAs would be notional accounts held by the employer while HSAs are typically funded accounts.  Both could be used to pay current health expenses or save for future health expenses.  Unlike HSAs, health FSA would not be subject to the requirement to have a high-deductible health plan.

A related bill has been proposed in the House (H.R. 1366) that similarly modifies the tax exclusion for contributions to health FSAs.  The House bill also increases the annual limit on employee contributions to $5,000, with an additional $500 for each additional employee dependent above two dependents that has not been taken into account by another person for the year and allows a carryforward of unused amounts to the next year.  The House bill has been referred to the House Committee on Ways and Means.

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Photo of Pooja Shah Kothari Pooja Shah Kothari

Pooja Shah Kothari is an associate in the firm’s Washington office and a member of the Tax Practice Group. She also has experience in corporate bankruptcy and restructuring.

Photo of Michael M. Lloyd Michael M. Lloyd

Michael Lloyd practices in the areas of tax and employee benefits with a focus on information reporting and withholding on cross-border payments (e.g., Forms 1042 and 1042-S) and Foreign Account Tax Compliance Act (FATCA), backup withholding, employment taxation, the treatment of fringe benefits…

Michael Lloyd practices in the areas of tax and employee benefits with a focus on information reporting and withholding on cross-border payments (e.g., Forms 1042 and 1042-S) and Foreign Account Tax Compliance Act (FATCA), backup withholding, employment taxation, the treatment of fringe benefits, cross-border compensation, domestic information reporting (e.g., Forms W-2, 1099, 1095 series returns), penalty abatement, and general tax planning and controversy matters. Mr. Lloyd advises large U.S. and foreign multinationals regarding compliance with information reporting and withholding issues, as well as a range of other federal and state tax issues.