By Barbara A. Cronin and Timothy Stanton
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Executive Summary A new IRS revenue ruling opens the door to employers allowing flexible spending accounts to reimburse employees’ expenses for non-prescription medications. Though this change is appealing to employers, the ruling raises administrative issues that will require some careful consideration. |
Employers that see a new IRS ruling as a chance–at no extra cost–to broaden their health flexible spending account plans ("FSAs") to reimburse employees for expenses for non-prescription medicines also may see a number of tricky issues as they move to implement the ruling.
Employer interest in this subject was recently prompted by Revenue Ruling 2003-102, where the IRS held FSAs and other health plans (such as health reimbursement accounts ("HRAs")) may reimburse employees for certain non-prescription drug expenses with pre-tax dollars, as long as reimbursement for these expenses is permitted under the plan. The ruling does not contain an effective date and is presented as an interpretation of existing law.
Employers are now evaluating: (i) what their plan documents and SPDs actually say about non-prescription medications; (ii) whether they want to allow, and can administer, such reimbursements; and (iii) if so, when they want to make the change.
The new ruling makes two important distinctions. First, it distinguishes expenses for non-prescription drugs used for "medical care" (to alleviate or treat personal injuries), which are reimbursable, from expenses for non-prescription drugs that are merely beneficial to general health, which are not reimbursable. Antacids, allergy medicines, pain relievers and cold medicines are cited as examples of drugs used for medical care, while vitamins and other nutritional supplements are cited as examples of drugs merely beneficial to general health. Second, the IRS clarifies that, even though certain non- prescription drug expenses can be reimbursed under an employer’s FSA or HRA, those expenses are still not deductible as a medical expense for other tax purposes.
Some employees may be able to realize significant savings under this ruling, such as those with expenses for Claritin or other high-priced medications that are now only available over the counter (at a higher cost than the prescription drug copayment). Many other employees may be able to generate tax savings for other over the counter medications that are routinely used.
Despite the appeal of the benefit, employers should consider several important issues in deciding how to respond to this opportunity:
Current plan terms
– Plans (or SPDs) that allow reimbursement of all IRS-approved expenses may be interpreted to automatically cover non-prescription medications unless plan sponsors take action to limit coverage. Other plans do not contain such automatic terms and may be ambiguous on this point or specifically exclude non-prescription medications.Effective date of change
– As noted above, there is no effective date in the ruling, so employers would seem to be safe applying it retroactively in the current plan year if they wish. But employers may want to give employees time to collect receipts to document expenses. Also, retroactive changes could frustrate employees who decided how much to contribute, or whether to contribute at all, on the assumption that their plan covered only prescription medications. By contrast, applying the decision only to future plan years could frustrate participants who may otherwise forfeit amounts in their FSAs.Administrative complexity
– Internal and third-party administrators alike may be unable to administer this new standard right away. Limiting reimbursements to prescription medications has simplified administration. Under the new rule, administrators will need to verify the identity of the person for whom the medication is purchased, and verify that the item at issue is actually for "medical care," and not just generally beneficial to overall health.Timing problems
– Even an employer considering a change effective January 1, 2004, may need to update enrollment materials right away and to review options with service providers to ensure that employees have accurate information about their coverage in time to make their elections for the 2004 plan year.A copy of the ruling is available on the GCD website: http:// www.gcd.com/seminars/publist.asp?groupid=2.
Copyright 2003 Gardner Carton & Douglas
This article is not intended as legal advice, which may often turn on specific facts. Readers should seek specific legal advice before acting with regard to the subjects mentioned here.
