QUESTION: Our company wants to adopt a qualified transportation plan that would offer employer contributions toward mass transit expenses and allow employees to use pre-tax compensation reductions to pay for any additional qualified transportation expenses. How should our plan handle unused balances credited to terminating employees? Must they be immediately forfeited? Are employer and pre-tax compensation reductions subject to the same rules?
ANSWER: Your plan’s choices are limited by two rules that apply to all qualified transportation plans: the “no-former-employees” rule, which prohibits qualified transportation plans from reimbursing expenses incurred and paid after termination of employment, and the “no-refunds” rule, which prohibits refunds of unused balances. These rules apply equally to employer contributions and pre-tax compensation reductions.
A terminated employee can request reimbursement of qualified transportation expenses that were incurred or paid during employment, so long as the expenses are submitted before the end of the plan’s applicable run-out period. (A run-out period is the time after the close of a coverage period during which an expense can still be submitted for reimbursement.) But terminated employees who do not have enough pre-termination expenses to exhaust their balances, or who fail to timely submit those expenses, cannot use the remainder for post-employment expenses and cannot get refunds. The likelihood of forfeitures may be influenced by plan design. For example, a plan that limits each month’s compensation reduction to the amount needed to obtain an employer-provided monthly transit pass at the end of the month is less likely to have forfeitures. Most reimbursement plans, though, will involve at least some risk of forfeiture, and both your qualified transportation plan document and employee communication materials should specify what will happen if a forfeiture occurs. Unused balances may be retained by the employer, used to pay plan expenses, or contributed tax-free to the accounts of other participants in the plan on a fair basis (subject to the monthly statutory limits that apply to qualified transportation benefits). State laws (e.g., escheat laws) must be considered when this aspect of your plan is designed, particularly if your plan is “funded” (that is, if money is held in separate accounts for participants) as opposed to “unfunded” (meaning that participant accounts are only bookkeeping entries and the money remains in the employer’s general assets). To discourage forfeitures, many employers will contact employees throughout the year to inform them of their account balances and to remind them to submit reimbursement requests on a timely basis. Some employees with large account balances may wish to change their elections to avoid forfeiting a balance.
If your plan distributes advance or multi-month transit passes, it could require terminating employees to return unused passes, but that is not required. Special tax inclusion rules may apply to terminating employees who have received such passes. For more information, see EBIA’s Fringe Benefits manual at Sections XX.B.2 (“Only Current Employees Can Participate”), XX.H.5 (“Special Income and Employment Tax Rules for Multi-Month Transit Passes”), XX.P (“Unused Amounts Cannot Be Refunded; Carryovers Allowed for Current Participants”), XX.Q (“Expense Substantiation and Other Requirements for Cash Reimbursements”), and XX.W.1 (“What Happens to Benefits Upon Termination of Employment?”).
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