IRS Provides Guidance on OTC Drug Change Under Health Care Reform

As we discussed in a previous post, Health Care Reform makes a few important changes to health FSAs, HRAs, HSAs, and Archer MSAs, two of which become effective in the coming months. Beginning January 1, 2011, the cost of over-the-counter (OTC) medicines and drugs will no longer be eligible for reimbursement unless the medicine or drug is obtained by a prescription or is insulin, and the tax on HSA and Archer MSA withdrawals not use for reimbursement of eligible expenses will be increased to 20% (from a current rate of 10%).

The IRS has issued guidance providing some important clarifications and a new rule regarding these changes. First, OTC medicine or drug expenses incurred before January 1, 2011 but submitted on or after that date are still eligible for reimbursement (as long as the plan allows for it). Second, the new OTC drug rules apply only to medicines and drugs, not to items that are not medicines or drugs (like eyeglasses, crutches, bandages, thermometers, and blood sugar test kits, to name a few). Thus, the rules for reimbursements of non-drug or medicine OTC items remain the same. Finally, after January 15, 2011 health FSA and HRA debit cards can no longer be used to purchase OTC medicines or drugs, even if the medicine or drug is obtained by a prescription or is insulin (unless purchasing at a store that has 90 percent of gross receipts consisting of medical care items). The cards may continue to be used for medical expenses other than OTC medicines or drugs.

Cafeteria plans may need to be amended in order to reflect these changes. Amendments must be adopted no later than June 30, 2011 and must be effective retroactively to January 1, 2011.