What comes to mind when you hear the term “cafeteria plan”? Lunch! Well, these plans have nothing to do with what’s on the menu. “Cafeteria plan” is the informal name for Section 125 of the Internal Revenue Code, which allows employers to offer a la carte benefit options to employees. Employees can choose which of the offered benefits are right for them, and pay for them pre-tax.
What Are Cafeteria Plans?
Just like walking through a cafeteria and choosing dishes, with a cafeteria plan, employees can decide which healthcare options they want. Examples include vision, dental, or HSAs/FSAs. It is important to note that cafeteria plans are not a type of health insurance. They are a way to let employees use pre-tax money to pay for the types of coverage they choose.
To qualify as a cafeteria plan, the plan must include:
- At least one qualified pre-tax benefit – these can include things like HSAs and FSAs, which allow employees to put aside pre-tax money to pay for medical expenses throughout the year
- At least one qualified taxable benefit – for example, an employer may allow employees who don’t want any of the offered benefits to choose a cash alternative as part of their salary. This is in contrast to traditional group plans, in which an employee isn’t compensated for opting out of coverage. This cash will, however, be taxed.
The Advantages of a Cafeteria Plan
Cafeteria plans are an attractive option for a diverse workforce that is used to having choices. For employees, not only do they get to choose only the benefits that are right for them, but they also get significant tax advantages. They can contribute pre-tax, thus saving money. Because they are taking pre-tax money out of their pay, their paychecks will be smaller, and they will end up paying less in taxes.
For employers, there are a few main advantages:
- Employees with smaller paychecks mean paying less in payroll taxes.
- Employers may be able to attract and keep staff with a personalized benefits plan.
- Unused FSA funds remain with the employer.
The Disadvantages of Cafeteria Plan
For employees, there aren’t many big disadvantages to having a Section 125 cafeteria plan, but there are a few things for them to remember:
- Employees are locked into the plan they choose for the entire year – with only a few exceptions,
One disadvantage of a cafeteria plan is that employees are locked in for a year. employees must wait until the next enrollment season to make any changes
- If employees choose a benefit like cash in place of coverage, they will incur a tax penalty.
- Any funds put aside but not spent by the employee are forfeited – employees need to decide how much money to put aside at the beginning of the year, and they may not always get it right.
For employers, the main disadvantage of offering this type of plan to employees is the hassle. Because they are so individualized, they can take a lot of time and expense to manage.
Remember, whatever plan you’re considering offering to your employees, we can help sort through the mess. EZ.Insure is here to connect you to your own personal agent who can steer you in the right direction – for free! You will never be hounded by endless calls and you will always get the most accurate information. We promise everything will be quick, easy – and did we mention, free? To get started simply enter your zip code in the bar above, or you can speak to an agent by emailing replies@ez.insure or calling 888-998-2027.