Elections and Reimbursements for Same-Sex Spouses under Cafeteria Plans, FSAs, and HSAs -Following the Windsor Supreme Court Decision

On January 6, 2014, the IRS issued Notice 2014-1, which provides guidance on the application of the rules under (a) cafeteria plans, including health and dependent care FSAs, and (b) health savings accounts (HSAs), as those two provisions relate to the participation by same-sex spouses in certain employee benefit plans following the Supreme Court decision in United States v. Windsor, 570 U.S. ___, 133 S. Ct. 2675 (2013), and the issuance of Rev. Rul. 2013-17.

Background

1. Cafeteria Plans, Health and Dependent Care FSAs, and HSAs

Code §125(d)(1) defines a cafeteria plan as a written plan under which all participants are employees and the participants may choose among two or more benefits consisting of cash and qualified benefits. Code §125(f) defines a qualified benefit as any benefit which, with the application of Code §125(a), is not includable in the gross income of the employee by reason of an express provision of Chapter I of the Code (with certain exceptions). Qualified benefits include contributions to an employer-provided accident and health plan that are excludable from gross income under Code §106.

Under Treas. Reg. §1.106-1, the gross income of an employee does not include contributions that his employer makes to an accident or health plan for compensation (through insurance or otherwise) to the employee for personal injuries or sickness incurred by the employee, the employee's spouse and dependents, and certain other individuals.

Treas. Reg. §1.125-4 provides that a cafeteria plan may permit an employee to revoke an election during a period of coverage and make a new election under certain circumstances. One circumstance under which a cafeteria plan may permit an employee to make a new election is a change in status event under Treas. Reg.§1.125-4(c), including a change in legal marital status. Another circumstance under which a cafeteria plan may permit an employee to make a new election is a significant change in the cost of coverage under Treas. Reg. §1.125-4(f).

Prop. Treas. Reg. §1.125-5 defines a FSA as a benefit program that provides employees with coverage that reimburses specified incurred expenses (subject to reimbursement maximums and any other reasonable conditions). Prop. Treas. Reg. §1.125-5(h) provides that the benefits that may be offered through FSAs include dependent care assistance programs under Code §129 and medical reimbursement arrangements under Code §105.

Code §129 provides that the maximum exclusion from gross income under a dependent care assistance program is $5,000 for an individual or a married couple filing jointly or $2,500 for a married individual filing separately.

Code §223(d) defines a HSA as a trust created or organized in the United States as a health savings account exclusively for the purpose of paying the qualified medical expenses of the account beneficiary and that satisfies other delineated requirements. The term "qualified medical expenses" is defined in Code §223(d)(2) to include amounts paid by a beneficiary for medical care for that individual and the spouse of that individual. Code §223(a) allows a deduction for an eligible individual in an amount equal to the aggregate amount paid in cash during a taxable year by or on behalf of the individual to a HSA. The maximum deduction for the 2014 taxable year is limited to $6,550 (as adjusted for cost-of-living increases) in the case of an eligible individual who has family coverage under a high-deductible health plan (HDHP). In the case of married individuals either one of whom has family coverage under a HDHP, the HSA deduction limitation is divided equally among the spouses unless they agree on a different division.

B.    Defense of Marriage Act

Until the recent decision of the Supreme Court in Windsor found it unconstitutional, section 3 of the Defense of Marriage Act (DOMA) prohibited the recognition of same-sex marriages for purposes of federal tax law. Specifically, section 3 of DOMA provided that "In determining the meaning of any Act of Congress, or of any ruling, regulation or interpretation of the various administrative bureaus and agencies of the United States, the word 'marriage' means only a legal union between one man and one woman as husband and wife, and the word 'spouse' refers only to a person of the opposite sex who is a husband or a wife."

As a result, employers could not permit employees to elect coverage of same-sex spouses on a pre-tax basis under a cafeteria plan unless the spouse otherwise qualified as a tax dependent of the employee.

C.    Effect of the Windsor Decision and Rev. Rul. 2013-17

In the Windsor Decision, the Supreme Court held on June 26, 2013 that section 3 of DOMA is unconstitutional because it violates Fifth Amendment principles. IRS Rev. Rul. 2013-17, interpreting the Windsor decision, held the following:

1.  For Federal tax purposes, the terms "spouse," "husband and wife,""husband," and "wife" include an individual married to a person of the same sex if the individuals are lawfully married under state law, and the term "marriage" includes such a marriage between individuals of the same sex;

2.  For Federal tax purposes, the IRS adopts a general rule recognizing a marriage of same-sex individuals that was validly entered into in a state whose laws authorize the marriage of two individuals of the same sex even if the married couple is domiciled in a state that does not recognize the validity of same-sex marriages; and

3.  For Federal tax purposes, the terms "spouse," "husband and wife," "husband," and "wife" do not include individuals (whether of the opposite sex or the same sex) who have entered into a registered domestic partnership, civil union, or other similar formal relationship recognized under state law that is not denominated as a marriage under the laws of that state, and the term "marriage" does not include such formal relationships.

Rev. Rul. 2013-17 provides that taxpayers may rely on its holdings retroactively with respect to any employee benefit plan or arrangement or any benefit provided thereunder only for purposes of filing original returns, amended returns, adjusted returns, or claims for credit or refund of an overpayment of tax concerning employment tax and income tax with respect to employer-provided health coverage benefits or fringe benefits that were provided by the employer and are excludable from income under sections 106, 117(d), 119, 129, or 132 based on an individual's marital status. The ruling further provides that, for purposes of the preceding sentence, if an employee made a pre-tax salary-reduction election for health coverage under a Code §125 cafeteria plan sponsored by an employer and also elected to provide health coverage for a same-sex spouse on an after-tax basis under a group health plan sponsored by that employer, an affected taxpayer may treat the amounts that were paid by the employee for the coverage of the same-sex spouse on an after-tax basis as pre-tax salary reduction amounts.

IRS Notice 2013-61, contains special administrative procedures for employers who want to make adjustments or claims for refund or credit of employment taxes paid with respect to the value of same-sex spousal benefits that are excludable from the income and wages of an employee under the Windsor decision, as interpreted by Rev. Rul. 2013-17.

Questions and Answers

Notice 2014-1 contains questions and answers that provide further guidance on the application of the Windsor decision with respect to certain rules governing the federal tax treatment of certain types of employee benefit arrangements. Please click here for these Q&As.

Written Plan Amendment

A cafeteria plan containing written terms permitting a change in election upon a change in legal marital status generally is not required to be amended to permit a change in status election with regard to a same-sex spouse in connection with the Windsor decision. To the extent that the cafeteria plan sponsor chooses to permit election changes that were not previously provided for in the written plan document, the cafeteria plan must be amended to permit such election changes on or before the last day of the first plan year beginning on or after December 16, 2013. Such an amendment may be effective retroactively to the first day of the plan year including December 16, 2013, provided that the cafeteria plan operates in accordance with the guidance under this notice.

Effective Date

This notice is effective as of December 16, 2013.

Effect On Other Documents

Rev. Rul. 2013-17 is amplified by extending the relief available to employees who have purchased health coverage for a same-sex spouse by permitting a mid-year cafeteria plan election change.