Change in Status Rules: Dependent Eligibility and Adoption Assistance

11-19-2024

Change in Status Rules: Dependent Eligibility and Adoption Assistance

So far this change of status series has discussed more widely used change in status event categories. Two lesser-known categories are dependent satisfies or ceases to satisfy dependent eligibility requirements and the commencement or termination of an adoption proceeding.

Dependent Satisfies (or Ceases to Satisfy) Dependent Eligibility Requirements

There are certain circumstances that may allow a tax dependent to begin to satisfy or cease to satisfy eligibility requirements. These include attainment of a certain age, gain or loss of student status, marriage, or other similar circumstances. While health care reform eliminates marriage and loss of student status as eligibility criteria for children under the age of twenty-six for health coverage, these events could still affect eligibility for coverage extending beyond age twenty-six, or eligibility for coverage under excepted benefits.

Under the applicable consistency rule, if a dependent becomes ineligible for health coverage due to attaining a certain age, marrying, or losing student status, then the employee may change his or her election to drop the dependent. This is also true for the reverse; an employee may add coverage for a dependent upon the dependent satisfying eligibility criteria for the specific plan. For example, assume Mike is a single parent who is enrolled in his health plan’s employee plus child coverage for him and his daughter Melissa. Mike is also enrolled in health FSA coverage through his employer’s cafeteria plan. A change in status occurs when Melissa turns twenty-six as she no longer meets the health plan’s eligibility requirements. Whether Mike can also make a health FSA election change depends on the health FSA’s definition of a dependent. If the health FSA’s definition of dependent includes employee’s children who are under age 27 as of the end of the taxable year, then Melissa continues to qualify as a dependent under the health FSA’s definition through the end of the year she turns twenty-six. In this case, a decrease in Mike’s health FSA coverage election would not be permitted.

It is not enough that the IRS allows election changes for this event, the employer must also have written language allowing this change in their cafeteria plan. The cafeteria plan may also allow the tag-along rule which permits previously eligible dependents to be enrolled and include language permitting a plan change (ex. HMO to PPO).

It is also worth noting that HIPAA special enrollment rights may also apply in situations involving a dependent with a loss of major medical eligibility.

Commencement or Termination of Adoption Proceedings

One of the least used change in status categories but gaining popularity is the commencement or termination of adoption proceedings. Anyone that has experience with adoption can confirm that it is a very costly process. Average costs of adoptions may run between $20,000 to $50,000. Because of this costly process, more employers are offering adoption assistance programs.

Under IRS Code Section 137, amounts paid (subject to dollar limits and other requirements) for “qualified adoption expenses” incurred in connection with the adoption (or attempted adoption) of a child are excludable from an employee’s gross income if furnished pursuant to an adoption assistance program of the employer. This program is a type of flexible spending account that allows participants to set aside pre-tax money into a designated account to pay for eligible adoption related expenses. Just like health care FSAs and dependent care FSAs, adoption assistance FSAs need to be listed in the cafeteria plan document and follow the rules of the cafeteria plan.

If an employer offers adoption assistance benefits, the cafeteria plan may include a change in status event that permits a change in election for commencement or termination of adoption proceeding. Inclusion of the change in status event may reduce the effects of the use it or lose it FSA requirement. If at the time of commencement or termination of adoption proceeding a participant has salary reductions coming out of future paychecks, they may change their election to stop future salary reductions. Election changes must be prospective; previously deducted salary amounts may not be recouped. The reverse is also allowed: if at the time of commencement or termination of adoption proceeding, the participant has not elected any salary reductions, they may elect to start salary deductions for the adoption assistance FSA.

Conclusion

Employers should be aware of and educate themselves about these two dependent eligibility change in status event categories. If the employer wants to allow mid-year election changes for these events, then employers need to make sure those events are listed as permissible mid-year election change in status events in the cafeteria plan. The cafeteria plan should also list the time employees have to notify the employer of these changes. Lastly, the employer should decide if evidence of these changes is necessary and if so, what documents will be accepted.

NOTICE OF DISCLAIMER: BUA is not a law or accounting firm, and therefore cannot provide legal or tax advice. The information herein is provided for general information only and is not intended to constitute legal or tax advice as to an organization’s or individual's specific circumstances. It is based on BUA's understanding of the law as it exists on the date of this publication. Subsequent developments may result in this information becoming outdated or incorrect and BUA does not have an obligation to update this information. You should consult an attorney, accountant, or other legal or tax professional regarding the application of the general information provided here to your organization’s specific situation considering your or your organization’s particular needs.