New Guidance on Automatic Substantiation of Debit Card Payments Under Flexible Spending Arrangements
Julia M. Vander Weele, Tuesday, August 01, 2006 | Filed under: Cafeteria Plans
The IRS has issued additional guidance regarding the use of debit cards, credit cards, and stored value cards for flexible spending accounts (“FSAs”) and health reimbursement arrangements (“HRAs”). The new rules may spark a renewed interest among employers in offering an electronic payment card feature with their FSAs and HRAs. The IRS had previously addressed substantiation of electronic payment transactions for health FSAs and HRAs in 2003. Under the old rules, automatic substantiation for debit or credit card transactions linked to health FSAs and HRAs was subject to the following key conditions:
- participants had to certify upon enrollment that the card would be used only to pay for eligible medical expenses;
- the card could be used only at certain merchants or providers that had health care merchant codes; and
- the expenses generally had to be independently verified at the point of sale unless they were recurring or matched the plan’s copay amount.
In all other circumstances, the participant was required to provide additional documentation, such as a receipt, to substantiate the claim. These requirements somewhat diminished the appeal of electronic payment cards. In Notice 2006-69, the IRS has provided that employers may adopt additional methods for substantiating claimed medical expenses.
Multiple Co-Payments
The old rules did not allow automatic substantiation when a debit card transaction involved more than one co-payment at a time. The new guidance allows automatic substantiation for certain card transactions involving multiple co-payments at merchants or service providers with health-care-related merchant codes. If the dollar amount of the transaction equals an exact match of multiples or combinations of the plan’s co-payment(s) (e.g., tiered prescription drug co-payments), the claim can be automatically substantiated without further review. The total expense cannot exceed five times the maximum co-payment amount. The plan’s co-payment schedule must still be independently verified by a third party.
Inventory Information Approval System
The guidance also extends the opportunity for automatic substantiation to merchants without health-care-related merchant codes (e.g., over-the-counter retail establishments). Payment card processors may implement inventory information approval systems to ensure that cards are used only for eligible medical care expenses. Such a system uses inventory control information (e.g., stock keeping units (SKUs)) to compare the items purchased against a list of items that qualify as medical care expenses under Code Section 213(d).
Although the participant is not required to submit receipts for substantiation under this method, the employer must comply with demanding recordkeeping requirements. Employers may need to check with their payment-card vendors to ensure that the recordkeeping requirements can be met. The new recordkeeping requirements are effective for plan years beginning in 2007.
If the inventory information approval system is used to substantiate claims, the card may be used only for eligible medical expenses. The participant must still pay for any non-qualifying amounts separately. It remains to be seen whether merchants and payment card vendors will implement systems to take advantage of this automatic substantiation method.
Other Substantiation Issues
The IRS has also clarified certain substantiation methods and requirements that apply to all health FSAs and HRAs, whether or not an electronic payment card is used. First, if an employer receives an explanation of benefits (EOB) or similar information from an insurer or other independent third party indicating the date of a qualifying medical care expense and the employee’s responsibility to pay for the expense (i.e., as co-insurance or to satisfy a deductible), the claim is fully substantiated and requires no further review (i.e., no receipt). Second, expenses cannot be substantiated based solely on an employee’s self-certification.
Dependent Care Assistance Programs
The guidance permits the use of electronic payment card programs for dependent care assistance programs, including a dependent care FSA. However, dependent care expenses still cannot be reimbursed before the expense is actually incurred. This may continue to make it difficult to use an electronic payment card if, as is typical, the dependent care provider requires monthly or weekly payment in advance.
Nevertheless, the IRS has streamlined the substantiation method for regular, recurring dependent care expenses. Once the initial expense is incurred and substantiated, the employer can reimburse future expenses without additional substantiation if:
- the participant’s dependent care provider has already been approved by the plan administrator,
- payments are for a constant service period (e.g., monthly), and
- the recurring amounts are the same or less than the initial amount.
As funds are made available through the electronic payment card (pursuant to an employee’s ongoing salary reductions), future dependent care expenses can be automatically paid without additional substantiation. If there is any increase in amount, or a change in dependent care providers, the employee must submit new substantiation for the claims.
Implications for Employers
In light of these new rules, employers that already offer, or are considering, an FSA or HRA debit card option should confirm that the vendor is aware of and complies with these substantiation and recordkeeping requirements. In addition, employers may wish to expand use of the card to cover dependent care expenses or implement inventory information approval systems.