By Richard R. Hammar, J.D., LL.M., CPA
© Copyright 2001 by Church Law & Tax Report. All rights reserved. This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is provided with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional person should be sought. Church Law & Tax Report, PO Box 1098, Matthews, NC 28106. Reference Code: m50 m106 c0103
IRS recognizes “health reimbursement arrangements.” The IRS issued guidance in 2002 clarifying the tax treatment of health reimbursement arrangements (HRAs). HRAs are funded solely by the employer and not through salary reduction, and may only reimburse employees for substantiated medical care expenses incurred by the employee and the employee's spouse and dependents. Employees’ purchase of medical insurance qualifies as a medical care expense. If employees can elect cash or any benefit other than medical expenses, it is not an HRA and all amounts paid by the plan are taxable (unless they are made nontaxable by some other provision of the tax code). If an HRA provides reimbursements up to a maximum dollar amount, any unused funds at the end of the year are carried forward to increase the maximum reimbursement amount in the following year (the cafeteria plan “use it or lose it” rule does not apply).Distributions of HRA funds to pay an employee’s medical expenses do not represent taxable income.