Retroactive enrollments violate cafeteria plan rules
Contrary to what’s commonly done in practice, Section 125 requires that employers only permit employees’ election changes on a prospective basis. This means that an employer who allows pre-tax salary reductions through a Section 125 plan may only let employees make elections before the coverage effective date. However, there are two exceptions where employees may make pre-tax retroactive elections: birth or adoption of a new child and when new employees have no waiting period for their benefits. For the first exception, an employee can retroactively add coverage for a new child within 30 days of the birth or adoption (or longer if the Section 125 plan document allows it)-but a retroactive election would not be allowed in the event of a marriage or other HIPAA special enrollment. Marriage is a HIPAA Special Enrollment Right which entitles an employee to enroll him/herself and the new spouse within 30 days of marriage. However, under the Section 125 requirement to enroll prospectively, the spouse’s enrollment date could only be the date of the request or first of the month following the event (depending on the employer’s plan). If the employer permitted the employee or spouse to enroll retroactively back to the date of marriage, the cost of the retroactive coverage must be paid with after-tax dollars. For the second exception, an employer who imposes no waiting period (i.e., coverage is effective as of the date of employment) may allow new employees to make a retroactive election within 30 days of employment. But if an employer has any type of waiting period (e.g., first of the month following date of hire, 30 days or 60 days), the new employee can only make a prospective election. As an example, a company’s new hire waiting period is defined as “first of the month following date of hire.” If a new employee begins work on 4/21, the employer gives the individual until 5/21 to make their elections, and their coverage effective date would be 5/1. This is not permitted because pre-tax elections must be made before the effective date unless there was no waiting period. Therefore, the employee would need to elect coverage prior to 5/1 because this employer has a waiting period. If an employer decides to continue this practice, the cost of coverage for the retroactive period must be taken on an after-tax basis or waived entirely. Otherwise, if audited, the IRS could determine that the practice disqualifies the entire Section 125/cafeteria plan.