Some health insurance agents and tax-professionals are doubting the finality of the August 2007 Proposed Section 125 Regulations that make this product legal under the Internal Revenue Code. 

Note: None of this should be taken as legal or tax advice.

I get this question all the time from employers and agents: "Can an Employer Contribute to an employee's HSA?" -- its a tough question to answer in one breath because the FULL answer requires an understanding of several different IRS legal term and plans.  Anyway, I got the question again today and decided to write a blog post about it.  So, here's how employer contributions to HSAs work...

Employers can make tax-free contributions to their employees' Health Savings Accounts (HSAs) in the following two ways:

1. Without a Section 125 Plan 
2. With a Section 125 Plan (Cafeteria Plan)

Remember that once an employer contributes money into an employee's account, the money is owned by the employee from that point forward, regardless of employment. In other words, employees own the HSA accounts (similar to how they own a checking account) -- They decide how and when the money is spent. Before an employer makes contributions to their employees' HSAs, they should first consider making contributions to an employee's HRA. 

Employer Contributions without a Section 125 Plan

Employers can make tax-free contributions to their employees' HSAs without using a Section 125 plan, as long as the contributions are "comparable" for all employees participating ("comparability rules"). Comparable contributions are contributions that are the same dollar amount or same percentage of the employee's deductible for all employees with the same category of coverage (i.e. self-only or family; FT or PT). 

Employer Contributions with a Section 125 Plan

To avoid the comparability rules on their HSA contributions, employers often utilize a Section 125 plan. HSA contributions through a Section 125 plan are not subject to the comparability rules, but Section 125 nondiscrimination rules do apply. Nondiscrimnation rules restrict employers from making contributions excessively in favor of highly compensated employees. Employers typically use a section 125 plan to offer matching contributions to their employees and to save payroll taxes (7.65%) on all employee contributions.

Note: None of this should be taken as legal or tax advice.

FSAs (Flexible Spending Accounts) are governed by Section 125 of the Internal Revenue Code. Employees contribute to FSAs through a salary reduction agreement. The employer may also contribute to an FSA if specified in the plan documents. All contributions are excluded from an employee’s gross income and wages subject to FICA (7.65%). Similarly, employers deduct reimbursements as a business expense and exclude them from wages subject to FUTA (0.8%) and the employer portion of FICA (7.65%).

See Publication 969 for more information.

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Note: None of this should be taken as legal or tax advice.

A salary reduction agreement is a written agreement between an employee and their employer in which the employee elects an amount of taxable income to be voluntarily withheld from their pay.  Salary reduction agreements are the basis for Section 125 "Cafeteria Plans" that give an employee a choice between taxable income and a non-taxable benefit.

Yes. Under Section 1.125-1(m), employees are able to reimburse themselves for personal health insurance policy premiums tax-free. See below for the pertinent section of the New Regulations for Cafeteria Plans. Many companies provide Section 125 Administration for group health insurance. See www.zanebenefits.com/employee for an example of how this works for your individual health insurance plan.


New Regulations: Section 1.125-1

(m) Payment or reimbursement of employees’ individual accident and health insurance premiums--(1) In general. The payment or reimbursement of employees’ substantiated individual health insurance premiums is excludible from employees’ gross income under section 106 and is a qualified benefit for purposes of section 125.

(2) Example. The following example illustrates the rule of this paragraph (m): 

Example. Payment or reimbursement of premiums.(i) Employer P’s cafeteria plan offers the following benefits for employees who are covered by an individual health insurance policy. The employee substantiates the expenses for the premiums for the policy (as required in paragraph (b)(2) in §1.125-6) before any payments or reimbursements to the employee for premiums are made. The payments or reimbursements are made in the following ways:

(ii) The cafeteria plan reimburses each employee directly for the amount of the employee’s substantiated health insurance premium;
(iii) The cafeteria plan issues the employee a check payable to the health insurance company for the amount of the employee’s health insurance premium, which the employee is obligated to tender to the insurance company;
(iv) The cafeteria plan issues a check in the same manner as (iii), except that the check is payable jointly to the employee and the insurance company; or
(v) Under these circumstances, the individual health insurance policies are accident and health plans as defined in §1.106-1. This benefit is a qualified benefit under section 125.