The Heroes Earnings Assistance and Relief Tax Act of 2008 (the “HEART Act”),
as enacted in the summer of 2008, has created an opportunity for eligible
reservists who are ordered or called to active duty to request distributions
from the unused balances in their health Flexible Spending Accounts (“FSAs”).
This development was discussed in a previous
LLP WorkCite. On September 29, 2008, the Internal Revenue
Service released additional guidance on these distributions through Notice
2008-82. The Notice provides valuable information regarding the features and
administration of these distributions for plan sponsors that choose to adopt
them as an option in their cafeteria plans.
The distributions, called Qualified Reservist Distributions (“QRDs”), were
added to the Internal Revenue Code (“Code”) through an amendment to Code section
125 and provide a valuable exception to the normal FSA “use-it-or-lose-it” rule.
Generally, the FSA rules restrict distributions solely to reimbursement for
medical expenses. However, a QRD permits reservists who are ordered or called to
active duty for a specific time period to withdraw FSA amounts without incurring
a medical expense, thereby avoiding potential forfeitures under the
To be eligible for a QRD, the individual requesting the distribution must be
a member of a reserve component ordered or called to active duty for a period of
180 days or more (or for an indefinite time period), and must make the
distribution request during the period beginning on the day he or she is called
to active duty and ending on the last day of the plan year (including the grace
period, if applicable) that includes the date of the order or call to active
Although the initial effective date of the QRD option is coincident with the
effective date of the HEART Act (June 18, 2008), a QRD may be available for
those reservists who were ordered or called to active duty before June 18, 2008,
The individual’s period of active duty continues
after June 18, 2008;
- The individual’s period of active duty meets the duration requirements;
- The plan in which the reservist participates provides for the QRD
QRDs are not available where:
- The order or call to active duty is for any individual other than the
employee, including the spouse of the employee;
- The QRD request is made during a plan year after the last day of the
plan year during which the order or call to active duty occurred; and
- The period specified in the order or call to active duty is less than
Where a reservist’s initial order or call to active duty does not exceed 180
days, but is later extended beyond the 180 day threshold, the reservist may
qualify for a QRD.
The Notice does not state whether an individual must be an active employee
when ordered or called to duty. Consequently, it is silent regarding whether a
terminated employee with an FSA account balance may request a QRD after he or
she is ordered or called to active duty and the other distribution requirements
Amount of QRDs
Prior to authorizing a QRD plan distribution, the plan administrator must
receive a copy of the order or call to active duty from the reservist who
requests the distribution. A plan may rely on the order or call to determine
whether the specified duration meets the requirements. Furthermore, where the
initial order or call meets the time requirements, but the actual period of
active duty is changed to less than the required period, the employee’s QRD
eligibility (including any receipt of a QRD) is not affected.
The plan document may use one of several methods to calculate the amount
available as a QRD. The amount available for distribution may be:
- The entire amount elected for the health FSA for the plan year, minus
any health FSA reimbursements received as of the date of the QRD request;
- The amount contributed to the health FSA as of the date of the QRD
request, minus any health FSA reimbursements received as of the date of the
QRD request; or
- Some other amount, but not exceeding the entire amount elected for the
health FSA for the plan year, minus reimbursements.
If the plan document does not specifically indicate the method for
calculating the available QRD amount, the deemed default rule is the second
Amounts that are not eligible to be received in a QRD include amounts:
- Forfeited under the plan’s “use-it-or-lose-it” rule on or before June
- Attributable to a prior plan year; or
- That have been contributed to non-health FSAs.
An employer must pay the QRD to the employee within a reasonable time, but
not more than 60 days after the request for a QRD has been made. Since health
FSAs are “plans” that are subject to the claims procedures outlined in the
Employee Retirement Income Security Act, a QRD request should be treated as any
other claim for benefits under the FSA’s procedures.
Timing of QRD Requests
The plan must permit employees to submit health FSA claims for medical
expenses that were incurred before the date a QRD is requested and must pay or
reimburse those claims. However, with regard to medical expenses that are
incurred after the QRD is requested, the plan may either terminate the
employee’s right to submit additional claims or permit the claims incurred prior
to the end of the plan year (including any applicable grace period) in the same
manner as any other medical claims submitted to the plan.
Tax Effects of QRDs
A QRD is included in the gross income and wages of the employee who receives
the distribution. That amount must be reported on the employee’s Form W-2 and is
also subject to employment tax. The amount reported as wages is reduced by any
amount contributed to the health FSA that is attributable to after-tax
contributions, such as COBRA continuation premiums.
QRDs are not required additions to FSAs. However, where a plan sponsor
decides to offer QRDs, the cafeteria plan must be amended, and the amendment
must apply uniformly to all eligible plan participants.
Distributions generally should not be made prior to a plan amendment
authorizing QRDs. However, Notice 2008-82 offers a transition rule for plan
sponsors that wish to adopt QRDs following the HEART Act’s enactment on July 18,
2008, but that have not had the opportunity to adopt a plan amendment. The
transition rule allows a plan to be retroactively amended by December 31, 2009.
The effective date of such a retroactive amendment should match the date of the
first QRD paid out of the plan, but cannot be earlier than June 18, 2008. It is
also important to note that the transition rule for retroactive QRDs does not
extend the period during which an employee may request a QRD.
Regardless of when a plan is amended, the transition rule does not allow an
employee to request a QRD with respect to a plan year after the last day of the
plan year (including any applicable grace period) during which the order or call
to active duty occurs.
The transition rules dovetail with the need of all employers to review the
terms of their cafeteria plans and to bring those plans into compliance with new
regulations issued in proposed form in 2007 by the United States Department of
the Treasury. Those regulations were expected to be effective January 1, 2009,
following the issuance of final regulations. However, due to a delay within the
Department, the final regulations have not yet been issued, and their effective
date will likely be extended to January 1, 2010.
Plan sponsors requiring additional assistance with Qualified Reservists
Distributions, including amending cafeteria plans to provide for QRDs, should
contact any member of the McGuireWoods
Benefits or Labor &