Should Health FSA and Medical Align? Usually, not Always.

In most cases, your company's medical plan and Health FSA program should share the same anniversary date. But there are exceptions.

It typically makes sense for a company to align its Health FSA and medical plan years. That's true whether or not the company offers an HSA-qualified medical plan (though it's especially true in this situation). But there's an exception to every rule (except perhaps to the rule that there's an exception to every rule). And employers should think about their work force and any special characteristics of their work calendar that put them at risk for reimbursing qualified expenses through a Health FSA and having the company (not the Health FSA participant) on the hook for payment.

Health Savings Accounts Eligibility and the Misalignment Problem

To be eligible to open and fund a Health Savings Account, an individual must meet three requirements:

1. Covered by an HSA-qualified medical plan.

2. Not have access to reimbursement through any disqualifying coverage.

3. Not qualify as another taxpayer's tax dependent under Section 152 of the Internal Revenue Code.

The first two requirements come into play when someone who wants to fund a Health Savings Account can receive reimbursement from her own, her spouse's, or her parent's general Health FSA. A general Health FSA falls under the definition of a medical plan for Health Savings Account eligibility purposes. Although most participants think of this arrangement as a reimbursement account, the tax code defines it differently. You set the insurance limit (your election). You pay premiums (your level pre-tax payroll deductions) on this coverage. You can draw on your full election early in the plan year, just as you can receive reimbursement above the premium paid on a traditional medical plan.

Individuals can be covered by more than one medical plan. But if they want to be eligible to fund a Health Savings Account, all plans must be HSA-qualified. That means that the deductible must be no less than $1,500 for self-only coverage and $3,000 for a family plan (figures that increase to $1,600 and $3,200 for plans with new effective dates or renewals in 2024). A general Health FSA doesn't have a deductible. Instead, it reimburses all qualified expenses submitted (or all qualified debit-card purchases).

Thus, anyone who's covered by a general Health FSA is disqualified from opening and funding a Health Savings Account. The family members who are eligible for reimbursement include the employee, the employee's spouse, the employee's tax dependents, and any of the employee's children through Dec. 31 of the year that they turn age 26.

And the Health FSA plan year doesn't always end after 12 months. Most employers offer either a grace period (an additional two-and-a-half-months to continue to spend balances) or a carryover (to roll up to $610 of unused funds into the following plan year). Those extenders can affect eligibility as well.

The Case for Alignment

It makes sense in most cases for employers to align the effective dates of both their medical plan and Health FSA. Here's why:

Health Savings Account eligibility. When both plans end at the same time, employees can choose an HSA-qualified plan and not sign up for a general Health FSA. That way, they can begin (if otherwise eligible) to fund a Health Savings Account immediately.

Focus. It's difficult to get employees to focus on their benefits during annual open enrollment. When the Health FSA and medical plan don't align, workers must make decisions at two different times, adding to the issues around focus.

Knowledge. It's important for employees to make informed choices about their coverage. When the employer introduces a new medical plan with higher employee out-of-pocket financial responsibility or reprices its menu of plans to offer an option with higher cost-sharing more attractive financially, employees should have the opportunity to adjust their Health FSA elections as well. But a change in medical plans isn't a qualifying event to change a Health FSA election mid-year. When the plans' effective dates align, employees can elect the right balance of medical plan and Health FSA election.

When Alignment May Not Make Sense for the Employer

Given the arguments above, is there ever a situation in which it makes sense financially for the employer to set different anniversary dates for the medical plan and Health FSA?

Yes.

And the reason revolves around the concept of uniform coverage. This term refers to a key feature of Health FSAs: Participants can spend their election at any time during the plan year.

Example: Quinn elects $2,500. He undergoes major restorative dental work - an implant and crown - during the first month of the Health FSA plan year. He can spend up to his full $2,500 election. His employer fronts the money, which Quinn repays with level payroll deductions during the plan year. If the employee leaves the company during the plan year having overspent his account, his employer canNOT capture the difference through a deduction in the final paycheck. The employer absorbs that difference.

Here's how this concept came into play in one of my first Health FSA clients nearly two decades ago:

A school district offered a Health FSA and several medical plans (not an HSA-qualified option). The medical plan was offered through the town, whose plan anniversary date was fixed at July 1 (to coincide with the municipal fiscal year, which was tied to the state's fiscal year). The district could have set the Health FSA anniversary date as July 1.

But here's the problem: Teachers are on summer vacation through July and into sometime in August. This is the time that teachers (1) undergo non-urgent medical care and (2) change jobs. That's a deadly combination, since a teacher could:

• make a $3,000 election,

• undergo outpatient surgery, a vision-correction procedure or restorative dental work in July (thereby exhausting her new Health FSA balance),

• accept a teaching position in another school district,

• and have paid little (if she's on a 12-month contract) or nothing (10-month contract) toward the election via pre-tax payroll deductions.

That's a real risk to the employer. And since the school district is locked into the medical-plan effective date, its options are either to accept the heightened risk that uniform coverage poses in this case or not align the medical plan and Health FSA plan years.

In this case, the district set the Health FSA effective date at Sept. 1. Employees made all their benefit elections - including the Health FSA - in May. But whereas other benefits became effective July 1, their old Health FSA plan year was in effect through Aug. 31.

Problem solved.

The moral to the story is that when the anniversary date of one of the two plans is fixed (in our example, the July 1 effective date of the medical plan) and there is a business factor (summer vacation) that makes this date problematic for the effective date of the other plan (the natural time to undergo medical care and change jobs), misalignment may be an effective business strategy.

When it is, here are a few tips:

• Maks the dates as close as possible so that employees can factor medical plan cost-sharing and reimbursement account elections into their benefits decisions.

• If the Health FSA election timing precedes the medical-plan selection, provide as much information as possible about the new medical coverage. For example, if the Health FSA renewed in July and the medical plan in September, let employees know about the new medical plan designs and patient financial responsibility before they make their Health FSA elections.

• Help employees understand that a Health FSA election is binding unless they experience a life event (like birth, marriage, adoption, divorce, or death). A change in their medical condition or the introduction of a new medical plan with higher cost-sharing is not a qualifying event to change their election.

If You Want to Align Plan Years

What if your medical-plan and Health FSA plan years aren't aligned and you want them to be? You can create a short plan year on the Health FSA to align them.

Example: Acme Dynamite's medical plan renews April 1. The old CFO set up the Health FSA to run on a calendar-year because it's a tax benefit and the Dependent Care FSA election is based on the calendar year. The new CFO wants to align the renewal dates of both plans. She can set a short Health FSA plan year of Jan. 1 through March 31, then renew the Health FSA effective April 1. Short Health FSA plan years are permitted to make adjustments like this.

The Bottom Line

In most cases, it makes sense for both employer (less administrative work) and employees (single focus) to align the effective dates of all benefits. But blindly accepting this rule of thumb without considering the unique aspects of the company's work calendar (such as summer breaks) may impose financial liability that outweighs the idea of a single anniversary date.

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The content of this column is informational only. It is not intended, nor should the reader construe the content, as legal advice. Please consult your personal legal, tax, or financial counsel for information about how this information applies to you or your entity.