Employers Can Now Permit Mid-Year Election Changes and Claim Extensions due to COVID-19

On May 12, 2020, the IRS released Notice 2020-29 and Notice 2020-33 in response to the coronavirus (COVID-19) health emergency. The Notices provide flexibility for employers offering group health plans (including both fully-insured and self-insured plans) to allow their employees to make mid-year election changes and allow additional time for employees to spend unused flexible spending account (FSA) and dependent care FSA (DC FSA) funds, among other relief.

Specifically, employers may amend their Section 125 Cafeteria Plans to allow eligible employees to do any of the following during the 2020 calendar year:

1. Make prospective mid-year election changes to their healthcare coverage, health FSA, and/or DC FSA, regardless of whether there is a “qualified life event” under the usual cafeteria plan rules. The changes may include any of the following:
   • Group health plans:
     • Employees may enroll if they initially declined coverage;
     • Employees may change their coverage (e.g. switch from self-only coverage to family coverage and/or switch plans); and/or
     • Revoke their coverage, though only if the employee attests in writing that they are enrolled in or plan to immediately enroll in other health care coverage.
   • Health FSAs/Limited Purpose FSAs/Dependent Care FSAs:
     • Revoke an elections
     • Make a new election, and/or
     • Increase or decrease an existing election.
2. Apply any unused FSA and/or DC FSA funds remaining at the end of the plan year (or grace period, if applicable) to claims incurred through December 31, 2020; and
3. Carryover up to $550 in unused amounts from their health FSA to the following plan year, if their FSA has a carryover provision. This would be an increase from the current $500 carryover limit and apply to plan years beginning in 2020.

Important Note: Employers are permitted, but not required, to allow for the changes outlined in the Notices. In addition, employers have discretion on when and under what circumstances employees will be able to make these changes.  

Permitted Mid-Year Election Changes to Healthcare Coverage, health FSAs, and DC FSAs

General Rule: Most employers offer their medical plans (medical, dental, vision), health FSAs, and DC FSAs through an IRS Section 125 Cafeteria Plan, which allows employees to receive benefits on a pre-tax basis. Under Section 125 regulations, employee elections must be made prior to the first day of the plan year and cannot be changed unless a Section 125 permitted status change event (i.e. a “qualified life event”) occurs allowing them to make changes.

IRS Changes: Due to unanticipated changes in the need for medical care caused by COVID-19, some employers may want to allow employees more flexibility to change their healthcare, health FSA, and/or DC FSA elections. However, these allowances wouldn’t have been permitted under Section 125 regulations because COVID-19, in and of itself, is not a “qualified life event” that would permit employees to make mid-year election changes.

As a response, the IRS issued Notice 2020-29, which permits employers to allow the following mid-year changes during the 2020 calendar year (regardless of whether the election change is permitted under the Section 125 regulations):

• Employees who previously declined employer-sponsored coverage can enroll in coverage during a special COVID-19 enrollment period, if offered by their employer and permitted by the employer’s insurance carriers.
• Employees can revoke an existing election and make a new election to enroll in a different health coverage. This would permit employees to switch employer-sponsored plans or switch from self-only coverage to family coverage on a prospective basis.

Employer Tip: To prevent adverse selection of health coverage, an employer may limit election changes to only “better” plans (e.g. switching from self-only coverage to family coverage or switching from a lower cost plan covering in-network expenses to a higher cost plan covering in and out-of-network expenses).

• Revoke employer-sponsored coverage to enroll in other coverage not sponsored by the employer. This would allow employees to drop their employer’s healthcare coverage to enroll in other healthcare coverage (e.g. their spouse’s coverage).

To do this, employees must attest in writing that they are enrolled in, or will immediately enroll in, other coverage. See the below sample attestation, as provided by the IRS:

Name: _______________________ (and other identifying information requested by the employer for administrative purposes).

I attest that I am enrolled in, or immediately will enroll in, one of the following types of coverage: (1) employer-sponsored health coverage through the employer of my spouse or parent; (2) individual health insurance coverage enrolled in through the Health Insurance Marketplace (also known as the Health Insurance Exchange); (3) Medicaid; (4) Medicare; (5) TRICARE; (6) Civilian Health and Medical Program of the Department of Veterans Affairs (CHAMPVA); or (7) other coverage that provides comprehensive health benefits (for example, health insurance purchased directly from an insurance company or health insurance provided through a student health plan).

Signature: ______________________

• Revoke an election, make a new election, or change an existing election to health FSAs and DC FSAs.

Employer Tip: Employers are permitted to limit mid-year election changes to amounts no less than the amounts already reimbursed.

Example: Fiona initially elected $1,000 for her health FSA. In June, Fiona’s employer amended their plan documents to allow for mid-year elections pursuant IRS Notice 2020-29, but only to the extent that amounts have not been reimbursed. By June 2020, Fiona had already reimbursed $500 in expenses from her health FSA. If Fiona wants to decrease her election in June, the lowest amount she can decrease her election to is $500 because she already reimbursed that amount.

Important Note: Employers who allow for these mid-year election changes may determine when such election changes are permitted and applied, as discussed in the plan amendment section below. Employers should check with their carrier (if fully insured) or their stop-loss carrier (if self-insured) to determine whether these mid-year changes will be permitted.   

Health FSAs and DC FSAs

General Rule: Under the use-it-or-lose-it rule, employees forfeit unused health FSA and DC FSA funds at the end of the plan year. Health FSAs may allow for a grace period (a period of up to 2 ½ months after the end of the plan year to incur new claims) or a carryover provision (previously up to $500 in unused amounts to be used for the next plan year), but not both. DC FSAs can allow for a grace period but are not permitted to have a carryover provision.

IRS Changes: IRS Notices 2020-29 and 2020-33 permit employers to provide employees the opportunity to spend unused amounts in their health FSAs and DC FSAs (and avoid forfeiting these amounts) under certain circumstances, as outlined below.

• Extension of Claims for Health FSAs and DC FSAs. The Notice permits employers to amend their plan documents to allow employees who have unused amounts at the end of their plan year (or grace period, if applicable) to apply those funds to claims incurred through December 31, 2020. This relief applies to all health FSAs (including limited purpose health FSAs) and DC FSAs whose grace period or plan year ends in 2020, regardless of whether the plans already have a grace period or carryover provision in place.

Important Note: During the health FSA claim extension period, an individual would be covered by a non-high deductible health care plan (HDHP) for purposes of determining whether they are considered HSA eligible. In other words, an individual with unused health FSA funds at the end of their plan year who is allowed to incur expenses until to the end of 2020, would be ineligible to contribute to an HSA during that time. A claim extension for a limited-purpose FSA would not affect HSA eligibility since they are compatible with HSAs.

• Increase in Carryover Amounts for Health FSAs. IRS Notice 2020-33 allows employers to increase their health FSA carryover amounts based on inflation (an additional 20% of the maximum FSA salary reduction for that plan year). For the 2020 plan year, the maximum carryover amount can be increased from $500 to $550 (which is an additional 20% of the 2020 FSA salary reduction limit of $2,750). This would allow employees to carryover up to $550 of unused amounts from plan years beginning in 2020 into the 2021 plan year. Employers must adopt an amendment to allow for the increased carryover amount.
  • For the 2020 plan year only, employers have until December 31, 2021 to adopt the plan amendment.
  • For subsequent years, employers must adopt a plan amendment before the last day of the plan year from which amounts may be carried over.

The following examples (adopted from IRS Notice 2020-29) exhibit how employees may be impacted if their health FSA incorporated an extension of claims and a higher carryover amount pursuant to the IRS Notices:

Example: Assume the following facts for Parts A and B. Employer’s health FSA plan year runs from July 1, 2019 to June 30, 2020 and allows for a $500 carryover. Pursuant to the new IRS Notices, Employer amends their plan documents to adopt (1) a $550 (indexed) carryover provision beginning with the July 2020 plan year and (2) a temporary extended period to apply unused amounts to claims incurred through December 31, 2020.

• Part A: At the end of the 2019 plan year (June 30, 2020), Jane has a remaining balance of $2,000 in her health FSA. For the 2020 plan year, Jane elects $2,000 toward her health FSA.
  • From July 1, 2020 through December 31, 2020, Jane incurs $1,900 in medical expenses. Her health FSA can reimburse the $1,900 from the leftover $2,000 she had from the 2019 plan year (because her employer amended the plan documents to allow for the extended period to apply unused amounts).
  • Under her plan’s carryover provision, Jane can carryover the unused $100 from the 2019 plan year ($2,000-$1,900) to the 2020 plan year. This means that Jane will have $2,100 ($2,000 in the new election + $100 from the 2019 plan year) in total for medical reimbursements incurred for the rest of the 2020 plan year (January 1, 2021 through June 30, 2021).
  • If Jane has any unused amounts on July 1, 2021 (the end of the 2020 plan year), she can carryover up to $550 to the 2021 plan year.

• Part B: At the end of the 2019 plan year, Alex has a remaining balance of $1,250. He elects $1,200 for the 2020 plan year.
  • Between July 1, 2020 through December 31, 2020, Alex incurs $600 in medical expenses. His health FSA can reimburse Alex for the $600 from the remaining $1,250 he had at the end of the 2019 plan year.
  • After the reimbursements, Alex will have $650 of unused funds from the 2019 plan year. Under the plan’s carryover provisions, Alex can carryover $500 of the $650 into the 2020 plan year and the remaining $150 will be forfeited. This means that Alex will have $1,700 ($1,200 in the new election + $500 from the 2019 plan year) in total for medical reimbursements incurred for the rest of the 2020 plan year (January 1, 2021 through June 30, 2021).
  • If Alex has any unused amounts on July 1, 2021 (the end of the 2020 plan year), he can carryover up to $550 to the 2021 plan year.

Again, it is up to the employer whether they want to implement any of these permitted changes to their health FSAs and/or DC FSAs. Employers should work with their health FSA and DC FSA vendors to implement any of the new changes regarding mid-year elections/changes, extension of claims, and/or increase in carryover amounts.

Plan Amendments and Retroactive Relief

Employers who want to allow the changes pursuant to the IRS Notices (as outlined above) must amend their plan documents accordingly. Any amendment for the 2020 plan year must be adopted on or before December 31, 2021.

As previously mentioned, employers are not required to provide unlimited election changes and may determine when such election changes are permitted and applied, provided that: 

• The changes are effective prospectively;
• The changes do not violate Section 125 non-discrimination rules; and
• The changes are effective during the applicable time period.
  • Mid-year elections must be made during calendar year 2020.
  • Extended claims periods can only be applied to health FSA and DC FSAs whose plan year (or grace period) ends in 2020 and the unused amounts can only be applied to claims incurred through December 31, 2020.
  • The increase to the health FSA carryover amounts can only be applied to plan years starting in 2020 or later.

Employer Tips: Employers should determine the following with respect to mid-year election changes (and incorporate the appropriate language in the plan amendment):

• The effective date of the plan amendment;
• Which mid-year changes will be allowed;
• Under what circumstances will the employer permit an employee to make an election change;
• The time period in which employees can make or change an election; and
• Limitations surrounding the mid-year election change (for instance, limiting the change in the health FSA election to amounts already reimbursed or limiting which plans employees can switch to, as outlined above).

Retroactive Relief & Taxation for Mid-Year Changes Made Prior to Notice 2020-29

Relief under Notice 2020-29 may be applied retroactively to January 1, 2020 for employers who already permitted mid-year changes (consistent with these IRS Notices) prior to the date the Notices were issued.

For instance, if an employer offered a COVID-19 special enrollment period in March 2020 (prior to the date of the Notice) for employees who previously declined coverage, any enrollments would have been inconsistent with their Cafeteria Plan (because there was no Section 125 “qualified life event” that would have allowed a mid-year change).

Under Notice 2020-29, the employer can retroactively amend their Cafeteria Plan to allow for this mid-year enrollment, so that any enrollments during that period would have been permitted under the plan. This retroactive amendment would allow employees who elected coverage in March to pay for their healthcare on a pre-tax basis under their Cafeteria Plan. However, this amendment would not allow employees who did not elect coverage in March to now elect coverage.

Notice Requirement

If employers adopt any of the changes outlined in the IRS Notices, they must notify all employees eligible to participate in the Cafeteria Plan of the changes. The Notices do not specify when the notice must be provided to employees; however, it is best practice for employers to notify employees as soon as possible so they can take advantage of the new permitted changes.

Summary of Permitted Changes

Employer Action Items

1. Employers should determine if they want to incorporate any of the permitted changes allowed under the IRS Notices (i.e. mid-year election changes, extension of FSA and/DC FSA claims, and/or increase in FSA carryover amounts).
2. Employers who want to incorporate the changes should determine the parameters around when they will permit employees to make these changes. Employers should work with their insurance carriers (if fully insured), stop-loss provider (if self-insured), and/or FSA/DC FSA vendors to ensure that the changes they want to implement will be permitted.
3. Employers must amend their plan documents accordingly and communicate any of the changes to their employees.

Additional Resources

• IRS Notice 2020-29: COVID-19 Guidance Under Section 125 Cafeteria Plans and Related High Deductible Health Plans
• IRS Notice 2020-33: Section 125 Plan Modification of Permissive Carryover Rules

The information and materials on this blog are provided for informational purposes only and are not intended to constitute legal or tax advice. Information provided in this blog may not reflect the most current legal developments and may vary by jurisdiction. The content on this blog is for general informational purposes only and does not apply to any particular facts or circumstances. The use of this blog does not in any way establish an attorney-client relationship, nor should any such relationship be implied, and the contents do not constitute legal or tax advice. If you require legal or tax advice, please consult with a licensed attorney or tax professional in your jurisdiction. The contributing authors expressly disclaim all liability to any persons or entities with respect to any action or inaction based on the contents of this blog.

Emerald Law – Emerald is a Client Compliance Consultant for
Sequoia, where she works with our clients to optimize and streamline benefits
compliance. In her free time, Emerald enjoys stand-up comedy, live music and
writing non-fiction.