A Section 125 Plan, also known as a Cafeteria Plan, is a tax-advantaged benefits program that allows employees to contribute pre-tax earnings toward qualified benefits such as health insurance, Flexible Spending Accounts (FSAs), and Health Savings Accounts (HSAs). These plans help employers and employees save on payroll and income taxes.
To maximize benefits while ensuring compliance, employers must adhere to IRS regulations, including documentation, eligibility, and reporting requirements.
For a broader overview, read our guide on Cafeteria Plans Explained: How Pre-Tax Benefits Work.
The IRS requires that all Section 125 Plans have a written plan document that outlines:
Eligibility criteria for employees.
Qualified benefits available under the plan.
Employee participation rules and election changes.
Compliance with nondiscrimination testing to ensure fair access.
Employers must maintain and update this document to comply with IRS guidelines.
The IRS allows certain qualified benefits under a Section 125 Plan, including:
Health, dental, and vision insurance premiums
Flexible Spending Accounts (FSAs)
Health Savings Accounts (HSAs) contributions
Dependent care assistance programs (DCAPs)
Group-term life insurance (up to $50,000 coverage)
Adoption assistance programs
Non-qualified benefits, such as scholarships or tuition reimbursement, cannot be included in a Section 125 Plan.
The IRS mandates that Section 125 Plans undergo nondiscrimination testing to ensure that benefits are not disproportionately favoring highly compensated employees (HCEs) or key employees. The three primary tests include:
Eligibility Test – Ensures a fair distribution of benefits across employee groups.
Contributions & Benefits Test – Verifies that contributions and benefits are proportionally distributed.
Key Employee Concentration Test – Ensures that key employees do not receive excessive benefits.
Employers must conduct these tests annually to maintain compliance.
Employees must make their Section 125 benefit elections before the plan year begins. Generally, elections are irrevocable for the entire plan year, except for qualifying life events, such as:
Marriage, divorce, or legal separation.
Birth or adoption of a child.
Change in employment status.
Significant cost changes to existing benefits.
Employers must have clear policies in place to manage election changes.
Employers offering a Section 125 Plan have specific IRS reporting responsibilities:
Form W-2 Reporting: Employers must report HSA contributions and certain other benefits.
ContributiForm 5500 Filing: Required for certain plans, particularly those with more than 100 participants.ons & Benefits Test – Verifies that contributions and benefits are proportionally distributed.
Plan Documentation & Record Keeping: Employers should retain plan documents and testing results for at least three years in case of an IRS audit.
For additional details, consult the IRS Publication 15-B, which covers employer tax benefits and cafeteria plan compliance.
Managing a Section 125 Plan can be complex, but Life Strong Care’s Preventative Care Management Program (PCMP) simplifies the process by:
Handling all plan documentation and compliance requirements.
Conducting annual nondiscrimination testing.
Managing employee elections and mid-year changes.
Maximizing employer tax savings while maintaining full IRS compliance.
For more details, explore our guide on IRS Section 125 Plan Rules: What Employers Need to Know.
Ensure your Section 125 Plan is fully compliant and optimized for tax savings. Talk with an expert today or request a free compliance review from Life Strong Care.
Website: https://www.lifestrongcare.com/ Email: support@lifestrongcare.com
Maximize your business’s potential by offering tax-saving, IRS-compliant benefits that make a real difference for your employees.
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