Late last year, the IRS announced that it was modifying the health flexible spending account (“health FSA”) “use-it-or-lose-it” rule. Prior to the change, employees had to use the full balance of their health FSA by the end of the plan year or the money would be forfeited. This rule sometimes forced employees to unnecessarily spend their health FSA money in order to avoid losing it.

Now, employers can elect to adopt a rule allowing employees to carryover up to $500 of health FSA funds to use in the following plan year. However, in order to elect the carryover option, the employer must not also have a 2 ½ month grace period (a grace period allows employees to reimburse qualified medical expenses for up to 2 ½ months of the following plan year). If employers wish to allow carryovers, a plan amendment must be adopted.

One potential problem with allowing carryovers is that it could render an individual with high deductible health plan (“HDHP”) coverage ineligible to make contributions to a health savings account (“HSA”). In informal guidance, the IRS has indicated that employers might be able to prevent such a result by allowing HSA eligible individuals to waive the carryover or to convert the carryover into some type of limited purpose health FSA.

For more information about the carryover, see IRS Notice 2013-71.