About Cafeteria Plans

What is a Cafeteria Plan?

A Cafeteria Plan (authorized under IRS Code section 125) is a written benefit plan maintained by a company for the benefit of its employees. As a participating employer, you too can receive valuable tax benefits. It works by allowing your employees to pay their portion of certain nontaxable benefits with pre-tax dollars through salary reduction rather than with after-tax dollars. In other words, as they save on Income and Social Security Taxes you too save the Payroll Taxes.

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What benefits are allowed under a Cafeteria Plan?

A Cafeteria Plan can offer the following types of benefits:
  • Insurance premium benefits
  • Health Care FSA
  • Dependent Care Assistance Plan
  • Health Premium Reimbursement Account
  • Supplemental Insurance Benefits

How will a Cafeteria Plan benefit me?

As an employer, a Cafeteria Plan can benefit you in many ways. We've already mentioned the Payroll Tax benefit, but it also serves as an employee retention tool as well as a good recruiting tool. It cushions the blow of rising premium costs and increases your employee's awareness of each benefit cost.

How will a Cafeteria Plan benefit my employees?

Let's look at an example of how an employee could save taxes by participating in a cafeteria plan. Here's the employee's situation:

  • Salary: $2,500 a month
  • Withholding: 20% for federal withholding, 7.65% for Social Security and 5% for State. For a total tax bracket of 32.65%.

  • Before participation in a cafeteria plan, employee paid the following:

    • Monthly premium for health insurance: $348

    • Out-of-pocket medical expenses: Monthly average of $100

    • Day Care Expenses: $200 a month

The employee decided to pay for the premiums through the cafeteria plan, put $100 a month in a Health Care FSA and $200 a month into the Dependent Care Expense Plan. Thus the employee had a total deduction of $648 per month.

To compute the tax savings first we multiply the monthly deduction by 12 to obtain an annual deduction of $7,776 and then we use the following equation.

Annual Deduction                 $7,776             (= $648 x 12 months)
Combined Tax Bracket     x  38.5%
                                            $2,538          Actual Tax Savings

In this example the employee saved $2538 by participating in the Section 125 plan. Without going into great detail, the employer, because of the employee's participation, would save approximately $500 in payroll taxes.

Can my employees change their elections later?

The elections cannot be changed during the Plan Year unless one of the following events occurs:

  • Changes in Status
    • Change in marital status
    • Change in the number of dependents
    • Change in employment status
    • Dependent's satisfying or ceasing to satisfy dependent eligibility requirements
  • Significant Cost Changes
  • Significant Curtailment of Coverage
  • Addition or Improvement of Benefit Package Option
  • Change in Coverage of Spouse or Dependent under Another Employer Plan
  • Loss of other health coverage
  • FMLA Leave
  • COBRA qualifying event
  • Judgment, decree, or order
  • Entitlement to Medicare or Medicaid

The changes that may be made depend on the event and the benefit.

How do I get started?

Contact Employer Concepts for more information on how you can get started on your company's Section 125 Cafeteria Plan.