Many employers struggle with the challenge of providing an attractive compensation package at an affordable price. One tool available to meet this challenge is the Section 125 plan. Section 125 plans are also commonly referred to as cafeteria plans. While there are different types of Section 125 plans, each provides the opportunity to save money by reducing both the employer’s and employees’ tax liability.
What is a Section 125 plan?
A Section 125 plan may be established pursuant to rules found in the Internal Revenue Code (IRC) Section 125. This IRC provision provides an exception to what is generally called the “constructive receipt doctrine.” Under the constructive receipt doctrine, offering an employee a choice between cash and an employee benefit requires that the amount that could have been received be included in the employee’s gross income.
A Section 125 plan allows employers to provide their employees with a choice between cash and certain qualified benefits without adverse tax consequences. Without a Section 125 plan, employee contributions can only be made with after tax dollars.
What are the different forms of Section 125 plans?
The three basic forms of Section 125 plans are:
- Premium Only Plan;
- Flexible Spending Account; and
- Full Cafeteria Plan.
What is a Premium Only Plan?
The Premium Only Plan is the most basic type of Section 125 plan and the most popular. A Premium Only Plan allows employees to pay their portion of insurance premiums with pre-tax dollars, which in turn reduces both the employer’s and employees’ tax liability. Benefits that are typically offered within a Premium Only Plan include: health, dental, vision, accidental death and dismemberment and group term life insurance.
What is a Flexible Spending Account?
Under IRC Section 125, employees may make pre-tax contributions to a Flexible Spending Account. An employee may seek reimbursement from the Flexible Spending Account for expenses paid for child care, health plan deductibles and eligible medical expenses not otherwise covered under a health plan. A Flexible Spending Account allows an employee to increase his or her spendable income while also reducing the employer’s tax liability.
For more information or for assistance in setting up a Section 125 plan please contact our office at 713-667-0333 or firstname.lastname@example.org