Updated: Dec 1, 2019
Generally, if an accident or health insurance plan covers the taxpayer, and the amount of the insurance premiums was not included in his income, he is not considered to have paid the premiums, and he must include any benefits he received in his income. If the amount paid in premiums was included in income, the taxpayer is considered to have paid the premiums, and any benefits he received are not taxable.
Cafeteria Plans—Exclusions from income
These are separate written employee benefit plans maintained by employers under section 125 of the Internal Revenue Code. Qualified benefits may be offered to employees under a cafeteria plan which may then be excluded from employee income. Some qualified benefits than can be included are:
Accident and health benefits
Dependent care assistance
Group-term life insurance coverage
Health flexible spending arrangements
Health Savings Accounts (HSA’s)
Inflation adjustments for Adoption Assistance benefits, Health flexible spending arrangements, and Health Savings Accounts were published in Revenue Procedure 2018-57 for the 2019 tax year. HSA’s were covered previously in the section on above-the-line deductions. Adoption assistance programs and health flexible spending arrangements are covered below:
Adoption Assistance Programs
Adoption Assistance is a fringe benefit offered by many employers. The intent is to make payments and provide reimbursements to employees to help with the adoption of a child. If the adoption assistance is provided through a qualified adoption-assistance program (defined by IRS), employers may exclude all or some of the reimbursements and payments from federal withholding, but not from Medicare, Social Security, or federal unemployment (FUTA) taxes. Employers will report the adoption assistance payments on each participating employee’s Form W-2, Wage, and Tax Statement.
For 2019, the maximum amount that can be excluded from an employee’s gross income for the adoption of a special needs child is $14,080. For all other adoptions, the maximum amount that can be excluded for adoption assistance with qualified adoption expenses is also $14,080.
The amount excludable from an employee’s gross income begins to phase out at $211,160 of modified adjusted gross income (MAGI). The exclusion is completely phased out at MAGI of $251,160 or more.
Health Flexible Spending Arrangements (FSA’s)
Employees can use an FSA to cover medical costs not covered by health insurance. Employee contributions will be made through payroll deductions and will be excluded from income tax, Social Security tax, and Medicare tax. Employers can also contribute to an employee’s plan. During the year, employees can use these funds to cover medical expenses not covered by their health insurance such as health insurance copays and deductibles, eyeglasses, dental expenses, hearing aids, and other medical devices. All or most of the funds in an FSA must be used by the end of the year or forfeited. Employers can (but may not) offer an option to carry over up to $500 to the next plan year.
For 2018, the maximum employee pre-tax contribution to an FSA was $2,650. The maximum pre-tax FSA contribution amount is adjusted upward to $2,700 for 2019.