COBRA for the Health FSA
By Brian Gilmore | Published May 8, 2023
Question: What are the special COBRA rules that apply to the health FSA?
Short Answer: The health FSA is a group health plan subject to COBRA. However, COBRA coverage is available only for underspent accounts and only through the end of the plan year of the qualifying event. The exception is where the health FSA offers the carryover, COBRA continues to be available for the full (typically 18-month) maximum coverage period.
General Rule: COBRA Applies to Group Health Plans
Individuals have the right to continue group health plan coverage through COBRA upon experiencing a COBRA “qualifying event,” which is a loss of coverage triggered by one of the prescribed COBRA triggering events (e.g., termination of employment). Individuals who experience a COBRA qualifying event are referred to as “qualified beneficiaries”. Group health plans subject to COBRA include medical, dental, vision, health FSA, HRA, most EAPs, and certain wellness programs and on-site medical clinics.
For more details: Newfront COBRA for Employers Guide
Run-Out Period to Submit Health FSA Claims Incurred Pre-Termination
The health FSA is a component of the employer’s Section 125 cafeteria plan. Most cafeteria plans will provide that FSA coverage (i.e., the ability to incur reimbursable claims) ends as of the date of termination from employment or other event causing a loss of eligibility, such as reduction in hours.
The cafeteria plan may provide that health FSA coverage continues through the end of the month in which the employee terminates, similar to many medical/dental/vision plans. However, extending health FSA coverage through the end of the month prior to starting the run-out period is not common.
Upon loss of coverage, most health FSAs will offer a run-out period for employees to submit claims incurred prior to termination. The run-out period is a plan design matter set by the plan terms, but it is typically a maximum of 90 days.
For more details: Newfront Section 125 Cafeteria Plan Guide
Example 1:
Adrian works at J&M Tropical Fish and enrolls in the company’s health FSA with a $1,000 election.
She terminates mid-year on the last day of June after having received $200 in reimbursement.
At the time of termination, Adrian has $150 in receipts for eligible medical expenses that she has not yet submitted.
The J&M Tropical Fish health FSA provides a 90-day run-out period for mid-year terminations.
Result 1:
Adrian can submit her $150 outstanding receipts for reimbursement as valid health FSA claims during the 90-day run-out period (i.e., by September 29).
Absent a COBRA election, she cannot incur new reimbursable expenses from July forward.
COBRA for Health FSA Applies Where Account is Underspent
COBRA is different from the plan’s run-out period because it permits the employee to continue to incur reimbursable claims. In other words, the employee will remain “covered” by the health FSA post-termination. The run-out period, on the other hand, merely permits employees to submit claims for eligible §213(d) medical items or services that were incurred prior to termination of health FSA coverage.
For more details: When FSA Expenses Are Incurred
Employees are eligible to continue health FSA coverage through COBRA only if their account is underspent at the time of the qualifying event, such as termination of employment. The health FSA is underspent if the employee has contributed more to the health FSA than has been reimbursed at the time of the event.
By timely electing and paying for COBRA, the employee will have access to the remaining balance in the FSA (i.e., the amount elected reduced by claims reimbursed prior to the qualifying event).
Example 2:
Paulie works at Shamrock Meats and enrolls in the company’s health FSA with a $1,000 election.
He terminates mid-year on the last day of June after having contributed $500 but received only $200 in reimbursement.
At the time of termination, Paulie has no unsubmitted receipts for eligible medical expenses.
Result 2:
Paulie’s account is underspent at the time of the termination because he has contributed more ($500) than he had received in reimbursement ($200).
He has therefore experienced a COBRA qualifying event that permits him to continue health FSA coverage through COBRA.
If Paulie timely elects and pays for COBRA for the Shamrock Meats health FSA, he can continue incurring reimbursable expenses during the period of COBRA continuation coverage.
Paulie will have access to the $800 remaining balance in the health FSA ($1,000 election reduced by $200 reimbursed prior to qualifying event) through COBRA.
COBRA for Health FSA Maximum Coverage Period Limited to Current Plan Year
The general COBRA rule is that a loss of coverage caused by termination of employment or reduction of hours is a qualifying event giving rise to an 18-month maximum coverage period. However, special health FSA rules generally limit the COBRA maximum coverage period to only the remainder of the plan year in which the qualifying event occurs.
Example 3:
Same as Example 2 above.
The Shamrock Meats health FSA does not offer a carryover.
Paulie timely elects and pays for COBRA to continue health FSA coverage.
Result 3:
Paulie can continue to incur reimbursable claims under the health FSA for the remainder of the plan year (through December) if he continues to timely pay the required premium.
He will not have access to the health FSA in the following year.
Exception: COBRA Applies to Health FSA Carryover for Full Maximum Coverage Period
Health FSAs may offer a carryover provision that permit employees to access up to $500 (indexed at 20% of the maximum employee salary reduction contribution for the plan year) of unused amounts in the subsequent plan year. For carryovers from a plan year starting in 2023 to a plan year beginning in 2024, the carryover limit is $610 (20% of $3,050). The carryover is an optional plan provision. A Health FSA offering the carryover cannot also offer the grace period.
For more details:
Where the health FSA offers a carryover provision, IRS guidance confirms that employees can continue coverage through COBRA into the subsequent plan year to access unused amounts that carry over. Employees will have access to the carryover balance until the end of the COBRA maximum coverage period, which is 18 months for a qualifying event triggered by a termination from employment.
Example 4:
Duke works for Delphi Boxing Academy and enrolls in the company’s health FSA with a $1,000 election.
He terminates mid-year on the last day of June after having contributed $500 but received only $200 in reimbursement.
The Delphi Boxing Academy health FSA offers the carryover provision.
Result 4:
Duke’s account is underspent at the time of the termination because he had contributed more ($500) than he had received in reimbursement ($200).
He has therefore experienced a COBRA qualifying event that permits him to continue health FSA coverage through COBRA.
Duke timely elects and pays for COBRA coverage through the plan year ending December 31, 2023.
As of the end of the plan year, he has not incurred any further reimbursable claims and therefore has a remaining balance in his account of $800.
$610 of that remaining balance carries over into the 2024 Delphi Boxing Academy health FSA plan year (he forfeits the remaining $190).
Duke will have access to the $610 carryover amount for the remainder of his 18-month COBRA maximum coverage period (through December 31, 2024).
The Health FSA COBRA Premium
The COBRA rules permit the plan to charge 102% of the applicable premium. In other words, the full cost of coverage plus a 2% administrative fee.
In the case of the health FSA, the cost of coverage is the amount elected by the employee. The employer will therefore take 1/12 of that election amount (plus the 2% administrative fee) to determine the applicable monthly COBRA premium.
In most cases, individuals electing COBRA will no longer have any ability to make pre-tax payroll deductions because they are no longer receiving compensation from the company. Accordingly, as with other group health plans, employees typically pay the health FSA COBRA premium on an after-tax basis.
Example 5:
Rocky works for Gazzo Loans and enrolls in the company’s health FSA with a $1,000 election.
He terminates mid-year on the last day of June after having contributed $500 but received only $200 in reimbursement.
Result 5:
Rocky’s account is underspent at the time of the termination because he had contributed more ($500) than he had received in reimbursement ($200).
He has therefore experienced a COBRA qualifying event that permits him to continue health FSA coverage through COBRA.
Rocky’s COBRA premium to continue health FSA coverage will be $85 per month ($1,000 x 1/12 x 1.02).
Exception: Carryover Amount Not Included in Health FSA COBRA Premium
Any carryover amount is included in determining the amount of the benefit that the COBRA qualified beneficiary is entitled to receive through the health FSA. However, IRS guidance confirms the COBRA premium to continue health FSA coverage cannot include carryover amounts.
In other words, the COBRA premium for the health FSA is based solely on the employee’s salary reduction election for the year and without regard to any available carryover amount.
Example 6:
Rocky works for Gazzo Loans and enrolls in the company’s health FSA with a $1,000 election for the 2023 calendar plan year.
He does not incur any reimbursable claims in 2023, so he forfeits $390 and carries over $610 to the 2024 plan year.
Rocky makes another $1,000 health FSA election of the 2024 plan year.
He terminates mid-year on the last day of June 2024, still without incurring any reimbursable expenses.
Result 6:
Rocky’s COBRA premium to continue health FSA coverage through the end of 2024 will be $85 per month ($1,000 x 1/12 x 1.02).
Rocky will have access to the remaining $1,000 from his 2024 election plus the $610 carryover.
The $610 in benefits carried over from 2023 cannot be included in the COBRA premium.
If any amount carries over into the 2025 plan year, Rocky can continue to access that amount through COBRA without any premium until the end of the 18-month maximum coverage period (i.e., through December 2025).
Template Employee Communication of Health FSA Run-Out Period and COBRA Options
The company’s health FSA is a component of company’s cafeteria plan, which is governed by Internal Revenue Code §125. The Section 125 regulations provide that company must follow the written terms of its cafeteria plan document to maintain the tax-advantaged status of employees’ health FSA elections.
Upon terminating employment, you lost coverage under the company’s health FSA. However, there are two options available to you to address unreimbursed funds remaining in the company’s health FSA at the time of your termination:
Run-Out Period: The company’s cafeteria plan provides a [Enter Period] run-out period for terminated employees to submit claims incurred prior to termination. You must follow the plan’s procedures to properly submit any outstanding claims within that run-out period. At the end of the run-out period, the use-it-or-lose-it rule for health FSAs requires that any unreimbursed funds be forfeited to the plan unless you elect COBRA.
COBRA: Upon terminating from employment, you experienced a COBRA qualifying event to continue coverage under the company’s health FSA through the end of the plan year. This option will be available to you only if your account was underspent at the time of termination (i.e., you had contributed more than you had been reimbursed at the time of the qualifying event). If you timely elect and pay for COBRA continuation coverage under the health FSA, you will be able to continue incurring claims for reimbursement through the end of the plan year. [Add if Health FSA Offers Carryover] Up to [Enter Carryover Maximum] remaining in your health FSA at the end of the plan year will be subject to the plan’s carryover provision and may continue to be available for the duration of your maximum COBRA period (18 months from termination).
Special Health FSA COBRA Rules for Deceased Employee
The IRS has stated that upon the death of an employee participating in the health FSA, the employee’s surviving spouse and children experience a COBRA qualifying event to continue coverage under the health FSA in the same manner as the employee could upon termination of employment.
Therefore, if the employee dies with an underspent health FSA (i.e., the employee had contributed more than had been reimbursed at the time of death), the surviving spouse or a surviving child should be offered COBRA under the health FSA. COBRA in that scenario would permit the qualified beneficiary to continue to incur reimbursable claims through the end of the plan year in which the employee died.
For more details: COBRA for an Incapacitated or Deceased Qualified Beneficiary.
Failure to Provide a COBRA Election Notice for the Health FSA
Employers generally must provide the COBRA election notice within 44 days of the loss of coverage. IRC §4980B imposes an excise tax of $100 for each day the election notice is late. Employers must self-report this excise tax liability on IRS Form 8928.
Employers avoid this excise tax and the associated reporting obligation on Form 8928 if a) the failure is due to reasonable cause and not due to willful neglect, and b) the failure is corrected during the 30-day period beginning on the date the failure was discovered (or, if earlier, the date the failure should have been discovered using reasonable diligence). Accordingly, it is critical that employers use reasonable diligence to discover errors, and then correct the failure within 30 days of discovery.
For more details: Failure to Timely Provide COBRA Election Notice.
Reminder: The FSA Use-It-Or-Lose-It Rule
The health FSA is a component of an employer’s Section 125 cafeteria plan. Section 125 (and its implementing regulations) imposes very strict requirements on the administration of cafeteria plans.
One of the most fundamental of these limitations is that all FSA elections are subject to the use-it-or-lose-it rule. Upon termination of participation mid-year (e.g., termination of employment), the rule requires forfeiture of any remaining unreimbursed funds after the end of the applicable run-out period (absent a COBRA election).
There is no option for employers to make exceptions to these rules or directly or indirectly refund to employees any unreimbursed FSA amounts remaining following exhaustion of the run-out period plus any period of COBRA continuation coverage. Engaging in this practice would risk disqualifying the entire Section 125 cafeteria plan if discovered by the IRS, potentially resulting in all elections becoming taxable to all employees.
For more details:
Reminder: Special COBRA Rules Apply to Health FSAs that Qualify as Excepted Benefit
The special COBRA rules for health FSAs described above (i.e., coverage available only for underspent accounts and generally only through the end of the plan year) apply to health FSAs that qualify as an “excepted benefit”.
The two requirements for a health FSA to be considered an excepted benefit are:
The Footprint Rule: All employees eligible for the health FSA must also be eligible for the major medical plan; and
The $500 Rule: Employer nonelective contributions to the health FSA cannot exceed $500.
Health FSAs are almost always designed as an expected benefit to avoid violating the ACA market reform provisions.
For more details:
Reminder: COBRA for HRAs
HRAs are also account-based group health plans subject to COBRA, but they do not qualify for the special COBRA rules (i.e., coverage available only for underspent accounts and generally only through the end of the plan year) that apply to health FSAs. The standard COBRA rules apply to HRA coverage.
Relevant Cites:
Treas. Reg. §54.4980B-2, Q&A-8(e):
(e) If the conditions in paragraph (c) of this Q&A-8 are satisfied for a plan year, the health FSA is not obligated to make COBRA continuation coverage available for that plan year to any qualified beneficiary who experiences a qualifying event during that plan year unless, as of the date of the qualifying event, the qualified beneficiary can become entitled to receive during the remainder of the plan year a benefit that exceeds the maximum amount that the health FSA is permitted to require to be paid for COBRA continuation coverage for the remainder of the plan year. In determining the amount of the benefit that a qualified beneficiary can become entitled to receive during the remainder of the plan year, the health FSA may deduct from the maximum benefit available to that qualified beneficiary for the year (based on the election made under the health FSA for that qualified beneficiary before the date of the qualifying event) any reimbursable claims submitted to the health FSA for that plan year before the date of the qualifying event.
IRS Information Letter 2021-0004:
Section 54.4980B-2, Q&A-8(e) of the Treasury Regulations provides that a health FSA is not required to provide COBRA continuation coverage for the plan year in which a qualifying event occurs except in certain circumstances. For example, COBRA continuation coverage is required if a participant experiences a qualifying event and as of the date of the qualifying event the amount the participant may receive as a reimbursement for medical care from their health FSA for the rest of the plan year exceeds the amount the FSA may require to be paid for the COBRA continuation coverage for the rest of that plan year. Notice 2015-87, 2015-52 IRB 889, clarifies that carryover amounts are considered when determining eligibility for COBRA continuation coverage for a health FSA.
If COBRA continuation coverage is available, the amount the participant may be able to receive as a reimbursement for medical care following termination of employment is generally:
The carryover amount plus the amount of the health FSA contribution elected for the plan year, minus
The amount the plan has reimbursed the employee as of the date of the qualifying event.
The amount that a participant may be required to pay for COBRA continuation coverage for the rest of the year does not include the carryover amount and is:
The amount of the health FSA contribution elected for the plan year, minus
The amount contributed to the health FSA as of the date of the qualifying event.
Disclaimer: The intent of this analysis is to provide the recipient with general information regarding the status of, and/or potential concerns related to, the recipient’s current employee benefits issues. This analysis does not necessarily fully address the recipient’s specific issue, and it should not be construed as, nor is it intended to provide, legal advice. Furthermore, this message does not establish an attorney-client relationship. Questions regarding specific issues should be addressed to the person(s) who provide legal advice to the recipient regarding employee benefits issues (e.g., the recipient’s general counsel or an attorney hired by the recipient who specializes in employee benefits law).
Brian Gilmore
Lead Benefits Counsel, VP, Newfront
Brian Gilmore is the Lead Benefits Counsel at Newfront. He assists clients on a wide variety of employee benefits compliance issues. The primary areas of his practice include ERISA, ACA, COBRA, HIPAA, Section 125 Cafeteria Plans, and 401(k) plans. Brian also presents regularly at trade events and in webinars on current hot topics in employee benefits law.
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