The IRS recently finalized adjustments to 2021 contribution limits on various tax-advantaged health and dependent care spending accounts, retirement plans, and other employee benefits such as adoption assistance and qualified transportation benefits. Many of these contribution limits, though not all, are indexed to cost-of-living adjustments.
Together, these annual announcements by the IRS detail any adjusted limits to the amounts employees can tuck away pretax into Flexible Spending Accounts (FSAs), Health Savings Accounts (HSAs), Commuter Benefits, and Retirement Plans such as 401(k)s for the upcoming year.
While IRS limits for HSAs are required, by law, to be announced by June 1st, limits for these other pretax savings vehicles always seem to come so late in the year that many employers have already completed their employee benefits open enrollments.
As frustrating as this is, employers would be well-served to get this information out to their employees so they can take full advantage of these pretax savings vehicles. That said, there are not all that many changes for 2021.
What follows is a summary of limits employers and employees need to know.
Health FSA Limits Remain the Same for 2021
The Affordable Care Act (ACA) imposes a dollar limit on employees’ salary reduction contributions to health flexible spending accounts (FSAs) offered under cafeteria plans. While this dollar limit is indexed for cost-of-living adjustments and may be increased each year, it can only be adjusted in increments of $50.
On Wednesday of this week, the IRS released Revenue Procedure 2020-45, stating that the health FSA dollar limit on employee salary reduction contributions will remain at $2,750 for taxable years beginning in 2021.
FSA Employer Limits for 2021An employer may continue to impose its own dollar limit on employees’ salary reduction contributions to health FSAs so long as the employer’s limit does not exceed the ACA’s maximum limit in effect for the plan year.
- For example, an employer may decide to limit employee health FSA contributions for the 2021 plan year to $2,500, rather than the ceiling of $2,750.
FSA Employer Contribution Limits for 2021
Employers can also provide health FSA contributions, in addition to the amount that employees can elect. In fact, employees can elect up to the IRS limit and still receive this employer contribution in addition to those amounts.
These employer contributions to a health FSA are based on how much the employee contributes:
- An employer may match up to $500, regardless of whether or not the employee contributes to a health FSA themselves.
- Above $500, employers may only make a dollar-for-dollar match to the employee’s contribution.
In general, however, employer contributions should not exceed $500 per plan year for a health FSA to maintain excepted benefit status, which avoids making it subject to certain ACA and HIPAA requirements.
FSA Per Employee Limit for 2021
The health FSA limit applies on an employee-by-employee basis. Each employee may only elect up to $2,750 in salary reductions in 2021, regardless of whether he or she also has family members who benefit from the funds in that FSA.
Since Healthcare FSA contribution limits are set on an individual basis, each spouse in the household may contribute up to the new FSA limit in the 2021 plan year.
- For example, a husband and wife who have their own health FSAs can both make salary reductions of up to $2,750 per year, subject to any lower employer limits.
FSA Carryover Limits for 2021
Issued on May 12 as part of coronavirus relief, IRS Notice 2020-33 raised the amount that health FSA plans can carry over for 2020 from $500 to $550. This maximum carryover amount remains $550 for 2021.
Note that there are two options for FSA extensions. Employers can adopt either of these, or neither, but they can’t offer both:
- Carryover. If an FSA plan has the carryover feature, participants can roll over up to $550 of unused FSA dollars to the next year but will forfeit any excess over $550 at year-end.
- Grace period. If an FSA plan has the grace period feature, this provides employees an additional two-and-a-half months to incur new expenses using prior-year FSA funds. At the end of the grace period in mid-March, all unspent funds must be forfeited.
Any amount that rolls over into the new plan year does not affect the maximum limit that employees can contribute.
Dependent Care FSA Limits Remain the Same for 2021
Unlike the health FSA, which is indexed to cost-of-living adjustments, the dependent care FSA maximum is set by statute. For 2021, it remains $5,000 a year for individuals or married couples filing jointly, or $2,500 for a married person filing separately.
To be clear, married couples have a combined $5,000 limit, even if each has access to a separate dependent care FSA through his or her employer.
Employers can also choose to contribute to employees' dependent care FSAs. However, unlike with a health FSA, the combined employer and employee contributions to a dependent care FSA cannot exceed the IRS limits noted above.
Elder care may be eligible for reimbursement with a dependent care FSA if the adult lives with the FSA holder at least 8 hours of the day and is claimed as a dependent on the FSA holder's federal tax return.
2021 Retirement Plan Limits Remain Mostly Unchanged
The IRS also recently released Notice 2020-79, containing cost-of-living adjustments for 2021 that affect amounts employees can contribute to 401(k) plans and IRAs, most of which remain unchanged. Key limits that remain unchanged include the following:
- The employee contribution limit for 401(k) plans will remain $19,500. The catch-up contribution limit for employees aged 50 and over also remains unchanged at $6,500.
- The employee contribution limit for IRAs will remain $6,000. The catch-up contribution limit for employees aged 50 and over also remains unchanged, at $1,000.
- The employee contribution limit for SIMPLE IRAs and SIMPLE 401(k) plans will remain $13,500.
- The limits used to define a “highly compensated employee” and a “key employee” will remain $130,000 and $185,000, respectively.
What has changed slightly;
- The annual limit for defined contribution plans (for example, 401(k) plans, profit sharing plans and money purchase plans) has increased to $58,000, up from $57,000.
- The annual compensation limit (applicable to many retirement plans) has increased to $290,000, up from $285,000.
The income ranges for determining eligibility to make deductible contributions to traditional IRAs, Roth IRAs, and to claim the Saver’s Credit (also known as the Retirement Savings Contributions Credit) also increased for 2021. This IRS’ news release contains more details.
HSA & HDHP Limits Increase for 2021
On May 20, 2020, the IRS released Revenue Procedure 2020-32 which provides the inflation-adjusted limits for Health Savings Accounts (HSAs) and High Deductible Health Plans (HDHPs) for 2021.
The adjusted contribution limits for HSAs take effect as of Jan. 1, 2021. The adjusted HDHP cost-sharing limits take effect for the plan year beginning on or after Jan. 1, 2021.
These limits include:
- The maximum HSA contribution limit;
- The minimum deductible amount for HDHPs; and
- The maximum out-of-pocket expense limit for HDHPs.
These limits vary based on whether an individual has self-only or family coverage under an HDHP.
- Eligible individuals with self-only HDHP coverage will be able to contribute $3,600 to their HSAs for 2021, up from $3,550 for 2020.
- Eligible individuals with family HDHP coverage will be able to contribute $7,200 to their HSAs for 2021, up from $7,100 for 2020.
- Individuals who are age 55 or older are permitted to make an additional $1,000 “catch-up” contribution to their HSAs.
The minimum deductible amount for HDHPs remains the same for 2021 plan years ($1,400 for self-only coverage and $2,800 for family coverage). However, the HDHP maximum out-of-pocket expense limit increases to $7,000 for self-only coverage and $14,000 for family coverage.
- Employers that sponsor HDHPs should review their plan’s cost-sharing limits (minimum deductibles and maximum out-of-pocket expense limit) when preparing for the plan year beginning in 2021.
- Employers that allow employees to make pre-tax HSA contributions should update their plan communications for the increased contribution limits.
The following chart details the HSA and HDHP limits for 2021 as compared to 2020. It also includes the catch-up contribution limit that applies to HSA-eligible individuals who are age 55 or older, which is not adjusted for inflation and stays the same from year to year
Transportation Fringe Benefits for 2021
The monthly limit on expenses for work-related mass transit expenses (for example, bus and train fare), as well as parking, remains at $270, which is unchanged from 2020.
Adoption Assistance for 2021
For 2021, the maximum amount of an employer subsidy for qualified child-adoption expenses that can be excluded from an employee's gross income is $14,400, up from $14,300 for 2020.
Qualified Small Employer HRAs for 2021
For tax year 2021, to qualify as a Qualified Small Employer Health Reimbursement Arrangement (QSEHRA), the total amount of payments and reimbursements by employers for any year cannot exceed $5,300 for individual coverage or $10,700 for family coverage.
Employee Information for Adjusting Contributions
It’s important to advise employees considering making changes to their contribution elections that changes to most (but not all) of these savings vehicles can only be made during your company’s annual open enrollment period, or after a Qualified Life Event.
For employees contributing to an FSA, it's also a good idea to remind them that these tax-deferred funds will be available, in full, at the start of the plan year, even though contribution amounts will be equally deducted from their pretax earnings each pay period.
It's also important to remind them that unlike unspent HSA funds, which roll-over, FSA funds expire at the end of the year. While the IRS did allow employers to make mid-year amendments to health and dependent care FSA plans this year, thus allowing participants to “spend down” amounts that would otherwise be forfeited, this exception, driven by COVID-19, was highly unusual and should not be expected again.
Employers who have already completed Open Enrollment for 2021 have two choices when it comes to communicating these updates; 1) They can do nothing, since there isn't an obligation to make the maximum election amounts available to employees, or 2) They can reopen the enrollment process and let employees who want to increase their elections do so before December 31st (for calendar year plans).
Note that employers who chose to increase contribution limits need to also make sure they are updating their plan documents accordingly.
If you have any questions about this year’s IRS limits as they relate to these or other employee benefits, contact us, or reach out to your employee benefits advisor right away.