At ANCO Insurance, we understand the importance of cost-effective benefits packages. A Section 125 plan, or cafeteria plan, is a smart choice for businesses looking to offer flexible benefits while enjoying significant tax advantages. Here’s a closer look at how these plans work and why they might be the perfect addition to your talent acquisition strategy.
What is a Section 125 Plan?
A Section 125 plan allows employees to choose from a variety of pre-tax benefits, including both taxable and qualified options. This flexibility helps employees tailor their benefits to their specific needs while reducing their taxable income.
Benefits of Section 125 Plans
Tax Advantages: Contributions to cafeteria plans are made on a pre-tax basis, lowering both employees’ and employers’ tax liabilities. Employees pay less in federal income tax and Medicare and Social Security taxes, while employers benefit from reduced FICA and federal unemployment taxes.
Attract and Retain Talent: Offering a Section 125 plan can be a deciding factor for potential employees. These plans provide access to flexible benefits that enhance the well-being of employees and their families.
Types of Section 125 Plans
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Premium Only Plans (POP): Employees use pre-tax contributions to cover group health insurance premiums.
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Flexible Savings Accounts (FSA): Employees set aside pre-tax dollars for qualified medical expenses, with an annual maximum contribution limit.
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Simple Cafeteria Plans: Available for employers with 100 or fewer employees, offering safe harbor from non-discrimination tests if equal contributions are made for all eligible employees.
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Full Flex Plans: Employees purchase benefits using employer contributions, with any remaining costs covered through pre-tax payroll deductions.
Qualified and Non-Qualified Benefits
Included in Section 125 Plans:
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Group health benefits
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Accident and disability coverage
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Adoption assistance
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Dependent care assistance
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Group term life insurance
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Health savings accounts (HSAs)
Not Included in Section 125 Plans:
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Long term care insurance
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Tuition assistance
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Employee discount programs
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Work cell phones
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Moving expenses
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Commuter benefits
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Gym memberships
Implementing a Section 125 Plan
Starting a Section 125 plan involves drafting a comprehensive document outlining the benefits, contribution limits, and participation rules. Non-discrimination tests may also be required to ensure the plan does not favor highly compensated employees. Many employers choose to work with a third-party administrator for setup and management.
Calculating Section 125 Benefits
Employers typically follow these steps to process payroll with Section 125 plans:
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Calculate gross earnings.
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Deduct Section 125 contributions from gross income.
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Withhold applicable taxes from taxable income.
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Calculate employer tax liabilities.
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Remit payments to insurance providers and government agencies.
Qualifying Life Events
Employees can only change their selections outside of open enrollment if they experience a qualifying life event, such as marriage, divorce, childbirth, adoption, or a change in employment status. Documentation is required to prove eligibility for these changes.
Who Can Sponsor a Section 125 Plan?
Any employer subject to U.S. income taxes can sponsor a cafeteria plan, including sole proprietorships, partnerships, LLCs, C corporations, S corporations, and government entities.
Frequently Asked Questions
What is the difference between POP and cafeteria plans? A POP is a type of cafeteria plan that allows employees to pay their share of insurance premiums via pre-tax payroll deductions.
What does Section 125 mean on a paycheck? It indicates pre-tax benefit contributions under a cafeteria plan.
Do I need a Section 125 plan? These plans are popular for their ability to reduce tax liabilities and attract talent. Employers should consult with benefits administrators and legal counsel to determine the best plan and ensure compliance with the Affordable Care Act.
At ANCO Insurance, we are committed to helping you navigate the complexities of employee benefits. Contact us today to learn more about how a Section 125 plan can enhance your benefits offering and support your business goals.
