June 15, 2005 -- The fear of losing a portion of earnings is one of the main reasons more employees do not take advantage of cafeteria plan Flexible Spending Accounts (FSAs). Given this circumstance, Congress has urged the IRS to develop a solution to address this issue.

In response to Congress’ concerns, the Treasury Department and the IRS issued Notice 2005-42, effective for 2005, which will allow employers to modify FSAs to extend the deadline for reimbursement of health and dependent care expenses up to 2-1/2 months after the end of the plan year. Previously, employees were required to “use or lose” FSA funds by the end of the year. Under the old rules, any unspent funds at year’s end would be forfeited. The adoption of this new rule is at the discretion of the employer.

The following is an example of the new rule. Alan works for Acme Corp., and for 2005, Acme elects to adopt the new rule and allows employees a deferral period of 2-1/2 months after year's end. Alan elects to defer $2,000 for 2005. He only used $1,500, leaving $500 in his account. Under the new plan, he has until March 15, 2006 to utilize those funds. Prior to this new rule, the $500 would have been forfeited.

The new rule will give workers with FSAs more time to pay for medical and dependent care expenses and will ease the year-end spending rush prompted by the prior rule.  

For more information, contact an Asher tax professional at 215-564-1900.

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