Health Reform: Tax Relief--Children Under Age 27

Cox Smith Employee Benefits E-Alert 

Health Reform: Tax Relief--Children Under Age 27

IRS Notice 2010-38, released April 27, 2010, provides a retroactive expansion of the federal income tax exclusion for medical reimbursements and coverage for children up to age 27. Beginning March 30, 2010, if a health plan provides such coverage to a child through the end of any year in which the child has not yet reached age 27, the coverage is not includible in income.

The Patient Protection and Affordable Care Act amended the Internal Revenue Code to extend nontaxable health coverage for children to the end of the year in which the child turns 27. "Child" means a child, stepchild, legally adopted child, child lawfully placed for adoption, or eligible foster child. Employers may assume that an employee’s taxable year is the calendar year and may rely on an employee’s representation as to the child’s date of birth.

The same retroactive rules will apply to health Flexible Spending Accounts, Health Reimbursement Accounts, VEBAs, 401(h) accounts, and to the self-employed health coverage deduction under Section 162(l).

This tax rule should be carefully distinguished from the Act’s requirement that plans actually provide coverage to children who have not yet reached age 26 beginning with the first plan year starting on or after September 23, 2010. If a health plan is not yet required to provide this coverage and doesn’t provide it, the IRS Notice will have no effect on the plan this year.

On the other hand, employers may amend health FSAs under cafeteria plans to provide children’s coverage that is coextensive with the new tax guidance.

The IRS Notice also clarifies that cafeteria plans will not fail to provide qualified benefits (including a health FSA) merely because the cafeteria plan provides excludible health coverage or reimbursements for a child who has not attained age 27 as of the end of the employee’s taxable year. To facilitate this expansion of coverage, the IRS will retroactively amend the cafeteria plan regulations to permit a "change in status event" for those nondependent children who will become newly eligible for coverage.

In addition, the Notice permits retroactive amendments to cafeteria plans to cover children under 27, so long as the amendments are adopted no later than December 31, 2010 and are effective no earlier than March 30, 2010. Status event election changes may be made (subject to the usual rules about retroactive elections) as soon as the plan in question permits the expanded child coverage in operation, but no earlier than March 30, 2010.

Employers should remember that no guidance has been issued clarifying grandfathered plan status. Accordingly, it is not yet known whether an amendment to expand coverage to older children, whether mandated or voluntary, will disturb grandfathered status.

Katherine Patton Noll
Mary M. Potter
Joshua A. Sutin
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