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Cafeteria Plan Training Excerpts

Premium Conversion Plans

The simplest form of a Cafeteria Plan is a premium conversion plan (also referred to as a Premium Only Plan, or "POP").

This plan gives an employee the choice of electing the employer-sponsored health care plan or keeping the cash the employee would have spent on the premium as salary.

Such an election is typically done pursuant to a salary reduction agreement whereby the employee's salary is reduced by the amount necessary to cover the employee's share of the premium.

The employee's portion of the premium is then passed on to the health insurer by the employer (i.e., the employer deducts a percentage of the premium from the employee's paycheck on a pre-tax basis and pays the health insurer on a monthly basis).

If the employee does not elect health care, the employee receives his or her regular pay, subject to taxation.

This arrangement may be extended to other benefits such as dental coverage, vision plans, prescription drug programs, etc.

The period of coverage for a premium conversion plan is 12 months (other than a short plan year which will be discussed later).

Example: Fred is paid a base salary before taxes of $3,000 every month. He has elected to participate in the employer-sponsored group health plan.

The cost for Fred's health care coverage is $200 per month and the employer will pay 80% of this cost ($160) leaving Fred to pay $40 of the total. Fred agrees to reduce his salary by having his employer deduct the $40 on a pre-tax basis. Fred's employer then pays the health insurance company the total of $200 (the employer's $160 and Fred's $40).

In order for Fred to contribute his $40 on a pre-tax basis, Fred's employer must offer the opportunity to elect participation through a written Cafeteria Plan that meets IRS requirements. This will reduce Fred's salary before taxes by $40 (Fred's share of the health care premium).

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