Why an Employer should offer Flexible Spending Accounts (FSAs)

Employers choose to implement Flexible Spending Accounts to help their employees save substantial tax dollars, with some tax saving for employers too. The extent to which an employer will experience tax savings and other advantages depends on the type of plan, the nature of the workforce, and in some cases state and local laws. Employers may:

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Realize FICA and FUTA savings with salary reduction;

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Save under state unemployment insurance and workers’ compensation laws;

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Increase employee’s awareness of benefit costs;

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 Contain health care costs in some cases; and

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Cushion the blow of significant premium increases.

An employee’s advantages arising from the Flexible Spending Accounts participation will depend on the employee’s tax status, the amount of his or her taxable income and pre-tax salary reduction elections, state and local laws and the cafeteria plan’s features.

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No federal Income Tax- Employees do not have to pay federal income tax on salary reduction amounts to a cafeteria plan- employees can buy qualified benefits with pre-tax dollars. And if a plan with employer contributions offers a cash-out option, employees who take health coverage or other benefits instead of cash will not be taxed on the cash that they could have received (but chose not to receive).
 

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No FICA, FUTA, or RRTA Tax- There are no Social Security and Medicare (FICA) taxes, federal unemployment (FUTA) taxes, or Railroad Retirement Tax Act (RRTA) taxes on pre-tax salary reductions under a cafeteria plan. FICA, FUTA, and RRTA wages do not include any payment made to, or on behalf of, an employee of his or her beneficiary under a Section 125 cafeteria plan, if (1) the payment would not be treated as wages without regard to the plan; and (2) it is reasonable to believe that Section 125 would not treat any wages as constructively received.
 

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State and Local Taxes- Most state and local governments treat cafeteria plan elections favorably for state and local income tax purposes. States vary as to how they treat cafeteria plan elections for purposes of state unemployment compensation taxes and workers’ compensation taxes (e.g., some states do not recognize cafeteria plan salary reductions, and they base such taxes on gross pay before cafeteria plan salary reductions).
 

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Other Advantages- Cafeteria plans allow employees to pay with pre-tax dollars for qualified benefits that may not otherwise be provided by the employer. In addition, cafeteria plans give employees the opportunity to ch3oose the benefits that they want. For example, a cafeteria plan can provide the opportunity for employees to opt out of health coverage and take cash instead, which may benefit employees who do not need the coverage (e.g., because they have coverage through their spouses’ employers).
 

 

   
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