When FSA Expenses are Incurred

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When FSA Expenses are Incurred

By Brian Gilmore | Published August 21, 2020

Question: When are FSA expenses incurred for purposes of determining whether they are reimbursable for the plan year?

Short Answer: FSA expenses are considered incurred when the health care or dependent care services are actually provided.

General Rule: Expenses Must be Incurred in the Period of Coverage

An FSA can reimburse only expenses incurred during the participant’s period of coverage. The period of coverage is the period of the FSA plan year in which the employee is enrolled (including any grace period for such plan year).

This means that any expenses incurred before or after the employee’s FSA period of coverage are not reimbursable.

Allowing an expense incurred outside the period of coverage to be reimbursed by the FSA would be a plan operational failure. The Section 125 regulations provide that operational failures can result in the entire Section 125 cafeteria plan being disqualified if discovered by the IRS—which would result in all cafeteria plan elections becoming taxable for all employees.

Example 1:

Tim incurs $240 in glasses expenses in March 2020.
Tim changes jobs and is a new hire with a new employer in May 2020.
The new employer maintains a calendar plan year health FSA.
Tim enrolls in the health FSA, making a $1,000 election for coverage beginning June 2020 through the end of the plan year.

Result 1:

Tim’s March 2020 glasses expenses are not reimbursable under the FSA because the expenses were incurred prior to his period of coverage.
Only health expenses incurred from June through December 2020 (plus any associated grace period) are within his period of coverage for the 2020 plan year.

Example 2:

Matt is not enrolled in his employer’s 2020 calendar plan year health FSA.
Matt makes a $1,000 health FSA election at open enrollment for the 2021 plan year.
Matt incurs $125 in contact lenses expenses in December 2020.

Result 2:

Matt’s contact lenses expenses are not reimbursable under the FSA because the expenses were incurred prior to his period of coverage.
Only health expenses incurred from January through December 2021 (plus any associated grace period) are within his period of coverage for the 2021 plan year.

For details on expenses incurred after termination of participation, see our previous posts:

FSA Expenses are Incurred When the Services are Provided

The FSA rules provide that an expense is considered incurred when the health care or dependent care services are provided.

In other words, the expense is not incurred when the employee is billed, charged, or pays for the care. Rather, the expense is incurred (and therefore reimbursable) only when the actual service is performed.

Example 3:

Madison undergoes a shoulder procedure in March 2020.
Madison changes jobs and is a new hire with a new employer in May 2020.
The new employer maintains a calendar plan year health FSA.
Madison enrolls in the health FSA making a $1,000 election for coverage beginning June 2020 through the end of the plan year.
In June 2020, Madison receives an EOB confirming he owes $375 in deductible expenses for the procedure.
In August 2020, Madison pays the $375 deductible expense to his medical provider.

Result 3:

Madison’s deductible expense is considered incurred in March 2020.
The March 2020 expense is not reimbursable under the FSA because the expense was incurred prior to his period of coverage.
Only health expenses incurred from June through December 2020 (plus any associated grace period) are within his period of coverage for the 2020 plan year.
The fact that Madison was billed and paid for the expense during the period of coverage is not relevant for determining when the expense was incurred.

Example 4:

Barry is not enrolled in his employer’s 2020 calendar plan year health FSA.
Barry makes a $1,000 health FSA election at open enrollment for the 2021 plan year.
Barry has a mental health therapy session in December 2020.
In January 2021, Barry receives an EOB confirming he owes a $45 copayment for the session.
In February 2022, Barry pays the $45 copayment to the mental health provider.

Result 4:

Barry’s therapy copayment is considered incurred in December 2020.
The December 2020 expense is not reimbursable under the FSA because the expense was incurred prior to his period of coverage.
Only health expenses incurred from January through December 2021 (plus any associated grace period) are within his period of coverage for the 2021 plan year.
The fact that Barry was billed and paid for the expense during the period of coverage is not relevant for determining when the expense was incurred.

For full details on all of the key Section 125 cafeteria plan issues for employers, see our Newfront Office Hours Webinar: Section 125 Cafeteria Plans.

Exception: Orthodontia Pre-Payment

A health FSA is permitted (but not required) to permit orthodontia expense pre-payments to be considered incurred at the point of advance payment—prior to the orthodontia services being performed.

The employee must actually make the advance payment for the orthodontia expense to be considered incurred. The employee’s receipt of a bill for pre-payment of the services does not by qualify without the employee’s actual pre-payment.

The IRS permits this exception to the general rule (i.e., that expenses be considered incurred only when the services are performed) because of the prevalence of pre-payment requirements for orthodontia services.

Example 5:

Jonathan is enrolled in his employer’s 2020 calendar plan year health FSA.
In November 2020, Jonathan’s orthodontist sends a $2,500 bill for the required pre-payment of orthodontia services to be performed throughout 2021.
In December 2020, Jonathan makes full payment of the $2,500 bill to pre-pay for the 2021 orthodontia services.

Result 5:

The employer’s health FSA may treat Jonathan’s pre-payment of the orthodontia expense in December 2020 as the date in which he incurred the expense.
Jonathan can therefore submit the $2,500 expense for reimbursement to his 2020 plan year health FSA.

Regulations

Prop. Treas. Reg. §1.125-5(a)(1):

(a) Definition of flexible spending arrangement.

(1) In general. An FSA generally is a benefit program that provides employees with coverage which reimburses specified, incurred expenses (subject to reimbursement maximums and any other reasonable conditions). An expense for qualified benefits must not be reimbursed from the FSA unless it is incurred during a period of coverage.

Prop. Treas. Reg. §1.125-6(a)(2):

(2) Expenses incurred.

(i) Employees’ medical expenses must be incurred during the period of coverage. In order for reimbursements to be excludible from gross income under section 105(b), the medical expenses reimbursed by an accident and health plan elected through a cafeteria plan must be incurred during the period when the participant is covered by the accident and health plan.

(ii) When medical expenses are incurred. For purposes of this rule, medical expenses are incurred when the employee (or the employee’s spouse or dependents) is provided with the medical care that gives rise to the medical expenses, and not when the employee is formally billed, charged for, or pays for the medical care.