How often do you get a chance to offer your employee(s) a benefit and save money for your business at the same time? One of the most underused employee benefits for small businesses (as few as one employee) today is the Section 125 Cafeteria Plan. These plans simply allow employees to withhold a portion of their salary on a pre-tax basis to cover the cost of qualifying insurance premiums, medical expenses and dependent care expenses. Because Section 125 Cafeteria Plan benefits are free from federal and state income tax, an employee's taxable income is reduced which increases their take-home pay. And because the Section 125 Cafeteria Plan reduces employee gross income for purposes of income tax, the employer also enjoys a reduction in their payroll tax liability by eliminating matching FICA taxes of 7.65%, and possibly workers' compensation (depending on your state).
In an environment where group health insurance continues to double in cost every four years, it's hard to understand why more employers don't set up full Section 125 Cafeteria Plans. Employers don't realize they can offset a good portion of their insurance premium increases with reduced payroll tax liabilities. Seems simple; and it really is. The reason more employers don't take advantage of Section 125 Cafeteria Plans is because they believe they're too difficult to set up or administer, most CPAs don't really understand them or offer assistance, and most insurance agents don't make enough commission on a Section 125 Cafeteria Plan to bother taking the time to explain the concept.
As succinctly, as possible, here's what you need to know about the three different benefits that make up a full Section 125 Cafeteria Plan (keep in mind you can implement just one, all, or any combination of these three plans):
Pre-tax health insurance premium deductions, also known as a Premium Only Plan (POP). POP plans allow employees to elect to withhold a portion of their pre-tax salary to pay for their premium contribution for most employer-sponsored health insurance plans. The plan offers a simple way to obtain favorable tax treatment for benefits already offered. A POP plan is the simplest type of Section 125 plan and requires little maintenance once it's been set up through payroll. Section 125 POP plans reduce employer payroll tax liabilities.
Out-of-pocket un-reimbursed medical expenses also known as Health flexible spending accounts (FSAs). A Health FSA, authorized under IRC Section 105 and 106, allows an employee to pay for certain medical expenses on a pre-taxed basis through salary reduction. Effectively the employee pays for out-of-pocket expenses that aren't covered by insurance (for example, annual deductibles, office co-payments, prescriptions, over-the-counter drugs and orthodontia) with dollars set aside in a tax free account. By participating in a FSA, an employee's taxable income is reduced, which increases the percentage of pay they take home. This, of course, also reduces employer payroll tax liabilities.
Dependent Care Assistance Plan flexible spending accounts (FSA). The Dependent Care Assistance Plan (DCAP) FSA, authorized under IRC Section 129, is an attractive benefit for employees who pay for child-care or adult daycare for their parents. Many employees don't take advantage of this benefit and may be unaware of the significant tax savings. Employees may hold back as much as $5,000 annually of their pre-tax salary for dependent care expenses, which include expenses they pay while they work, look for work or attend school full time. Qualified dependent care expenses may include, but are not limited to, the care of a child under the age of 13, daycare for parents, care for a disabled spouse or a dependent incapable of caring for himself, and summer day camps. In addition, by paying for dependent care with pre-tax dollars, your employees can save approximately 20 to 40 percent on their child-care expenses. This of course also reduces employer payroll tax liabilities.
Krumm & Associates will survey your employees and provide you an analysis that will determine your company's and employee's potential payroll tax savings before you commit to implementing the plan. Free of charge! In short there is no risk to you.