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Amending your FSA plan: Wait for IRS green light

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in Small Business Tax

If you offer employees a tax-advantaged flexible spending account (FSA) program, the IRS recently said you can give them an extra 21/2-month "grace period" beyond the plan year to spend their FSA dollars. To take advantage of this option, employers can amend their plans before year-end. (See 6/13/05 issue.)

Strategy: Hold your horses if you offer a health savings account (HSA) program to employees. By implementing the new grace period for FSAs, you could unintentionally disqualify an HSA setup.

Under the FSAs "use-it-or-lose-it" feature, employees must forfeit any unused funds in their FSA account at year-end. They can't carry over excess funds to the following year. The new IRS ruling doesn't eliminate that use-it-or-lose-it feature, but it says employees can take an extra 21/2 months after the close of the year to empty out their accounts.

However, a different tax-law provision says employees can't contribute to HSAs if they are covered under a "general purpose" FSA. If an employee is covered under an FSA until March 15 of next year, it will technically disqualify the HSA for the 2006 year.

Tip: Now that the IRS is aware of the snafu, it will probably move quickly to resolve the problem. Until then, don't amend your FSA plan until the IRS issues official guidance.

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