Overview – Federal/Pennsylvania Differences

Federal Cafeteria plans are federal plans pursuant to Internal Revenue Code Section 125 under which employers sponsor benefit packages that offer employees choices between cash and qualified benefits. If the employees choose cash, the cash amounts are included in taxable compensation. If the employees choose qualified benefits, the values of the benefits are not included in gross income. Qualifying benefits include: Accident coverage; Health coverage; Group-term life insurance coverage; Dependent care programs; Certain employer payments for educational expenses; On-site athletic facilities provided and operated by the employer; and A profit-sharing or stock bonus plan or rural cooperative plan as defined in IRC Section 401(k)(7) that includes a qualified cash or deferred arrangement as defined in IRC Section 401(k)(2).

Pennsylvania If a taxpayer’s employer maintains a federally qualified cafeteria plan pursuant to IRC Section 125, certain amounts deducted from taxpayer’s salary ( e.g. , health/accident insurance) are not subject to PA PIT to the extent excluded for federal purposes. Employer-provided flex dollars that an employee must use to pay for Pennsylvania-exempt benefits, such as health insurance or life insurance, are excludable from income taxation. Employee contributions to a qualified IRC Section 125 plan for coverage for hospitalization, sickness, disability or death, supplemental unemployment benefits, or strike benefits, like employer contributions, are exempt, but only to the extent they are exempt for federal income tax purposes. If an employer has an employee benefit plan that is not a qualified IRC Section 125 plan, employee contributions, even for the same kinds of coverage, are not excludable from Pennsylvania-taxable compensation. Employee payments and contributions for other benefits, including dependent care and contributions to an IRC Section 401 plan, are not excludable from Pennsylvania-taxable compensation. If the employer’s plan provides life insurance coverage that includes coverage for an employee’s spouse and/or dependent child and the employee pays a portion of the premium for that coverage, that portion of the employee’s payment is not excludable. Article III of the Tax Reform Code was amended in 1997 to incorporate some features of federally qualified cafeteria plans. Under the Tax Reform Code:

“Compensation” shall not mean or include . . . payments made by employers or labor unions including payments made pursuant to a cafeteria plan qualifying under section 125 of the Internal Revenue Code of 1986 . . . for employee benefit programs covering hospitalization, sickness, disability or death, supplemental unemployment benefits or strike benefits provided that the program does not discriminate in favor of highly compensated individuals . . . 72 P.S. § 7301(d)(vi).

The department’s regulation interprets this statutory exclusion and provides that:

Payments made after Dec. 31, 1996, for employee welfare benefit plans under a cafeteria plan will be deemed to be an ‘employer contribution’ for Pennsylvania Income tax purposes if the following apply: The payments were not actually or constructively received after taking section 125 of the IRC into account. They payments were specified in a written cafeteria plan document as being available to the participant: For the purpose of selecting or purchasing benefits under a plan. As additional cash remuneration received in lieu of coverage under a plan. The benefits selected or purchased are nontaxable under the IRC when offered under a cafeteria plan. The payments made for the plan would be nontaxable under the PA PIT if made by the employer outside a cafeteria plan.

If these conditions are satisfied, cafeteria plan contributions are taxed under the rules as applied to employer payments for employee welfare benefit plans . . . See 61 Pa. Code §101.6 (i).