Construction Employee Relations and Benefits
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New Cafeteria Plan Regulations
By:Gregory L. Ash

Practice Group(s):Employee Benefits

Posted April 2001
As seen in the March 2001 Benefits in Brief
Published by Spencer Fane Britt & Browne LLP


Last year the IRS issued final and proposed regulations governing when cafeteria plan participants are allowed to modify their salary deferral elections during the plan year. In a new set of final regulations published January 10, 2001, the Service adopted the proposed regulations and revised some of the final regulations.

The new regulations clarify that changes in cafeteria plan elections generally can be made only on a prospective basis. An exception applies, however, for the retroactive enrollment rights that apply in the case of an election made within 30 days of a child's birth, adoption, or placement for adoption. Cafeteria plans that allow retroactive coverage in other circumstances - for example, retroactive coverage for a new spouse - must be modified to conform to the new rules.

These rules also expand the permissible mid-year election change opportunities applicable to group life, disability, and AD&D coverage. Under the proposed regulations issued in March 2000, employees were allowed to make mid-year changes in such coverage only in the event of a change in marital or employment status. The final regulations now allow such election changes for all change of status events, including the birth or adoption of a child.

The final regulations adopted in January also clarify the circumstances in which employees may make election changes when they obtain coverage under another plan. The proposed regulations allowed employees to decrease or cancel coverage when they became covered under a spouse's or dependent's plan. Employers often wondered, however, how they could verify whether their employees actually had obtained such coverage. The final regulations provide that the only "proof" of other coverage an employer needs is a certification from the employee that he or she, in fact, has or will obtain such coverage, unless the employer has reason to believe that the certification is false.

Rules in the proposed regulations allowing election changes in connection with a significant increase in cost or curtailment of coverage were clarified in the new set of final regulations. Such cost or coverage changes also encompass increases that occur when an employee must contribute a larger portion of the plan's total cost. This might occur, for example, if an employee changes from full- to part-time status. In addition, these rules were extended to apply to decreases, as well as increases, in the cost of coverage. If there is a significant decrease in a benefit plan's cost, all eligible employees - even those who previously did not participate in the cafeteria plan - may elect to participate and make corresponding pre-tax contributions.

Moreover, the final regulations make it clear that election changes may be made not only when a new benefit option is added, but also when an existing benefit is significantly improved. Such an improvement could include, for example, expanding a preferred provider network to include substantially more health care providers.

If there is either a significant increase in the cost of coverage or a loss of coverage during the plan year, employees may eliminate coverage (including changing from family to single coverage) and stop making cafeteria plan contributions for that coverage, but only if there is no similar coverage to elect. Such changes also may be made if there is a significant curtailment of benefits that amounts to a loss of coverage. This may occur when an HMO ceases to be available in the area where the participant lives, or when a lifetime maximum benefit is reached. In the event that a significant curtailment does not amount to a loss of coverage (e.g., a significant increase in a health plan's deductible), employees may not drop coverage altogether, but may switch to similar coverage

The new cafeteria plan final regulations generally are effective for plan years beginning on or after January 1, 2001. However, the change in status rules that apply to coverage other than accident, health, or group term life insurance benefits, and the rules for significant cost or coverage changes, are not effective until plan years beginning on or after January 1, 2002.