Every few years, promoters resurface with new “double dip” health plan products promising employees more take‑home pay and employers big employment‑tax savings. The pitch is familiar: employees pay large pre‑tax “premiums” through a cafeteria plan, then receive substantial, “tax‑free” payments back through payroll that are just shy of the pre‑tax contributions. Because the contribution was never taxed going in, and the payment is treated as tax-free coming out, the participant has effectively paid no taxes on that income. Judicious employers may not spot the issue because the impermissible tax benefit is frequently bundled with legitimate offerings like telehealth or hospital indemnity coverage.
Proponents claim that everybody wins. However, these arrangements don’t work under the law, as Treasury and the IRS have said repeatedly, and can expose employers to risk of liability for back taxes, penalties, and costly W-2 corrections.
Link to Why the Law Prohibits Double-Dipping Why the Law Prohibits Double-Dipping
In 2002, Treasury and the IRS issued revenue rulings making clear that reimbursements of employer-paid premiums and “advance reimbursements” or similar devices are not excludible from taxable income under section 105(b). Those rulings largely stopped the early-2000s versions of double-dip designs. Over time, however, new variants have appeared, most commonly involving fixed‑indemnity and “wellness” add‑ons provided through cafeteria plans.
IRS Chief Counsel has repeatedly warned that newer double-dip designs don’t work either, and it has continued its enforcement bolstered by a series of internal memoranda (called Chief Counsel Advice or “CCA”) targeting wellness and fixed indemnity designs that function as double-dip arrangements. Most notably, in CCA 202323006, issued in June 2023, the IRS examined a fixed indemnity policy funded through pre-tax salary reductions that paid $1,000 per month when employees participated in basic wellness activities. The IRS concluded that these wellness indemnity payments are includable in the employee’s gross income when the employee has no unreimbursed medical expenses related to the payment. Because the payments were provided in connection with employment, they also constitute “wages” subject to FICA, FUTA, and federal income tax withholding.
Link to Why These Arrangements Are Still Being Marketed Why These Arrangements Are Still Being Marketed
Proponents sometimes point to shifting regulatory activity to suggest a softening. It’s true that in April 2024, Treasury and the IRS withdrew proposed rules that would have expressly addressed certain fixed‑indemnity issues. But in withdrawing the proposed rules, Treasury and IRS were explicit that no inference should be drawn from its decision to delay guidance. They also stated that their concerns about arrangements that recharacterize income as medical reimbursements have escalated and that IRS compliance efforts under Section 105(b) will continue. Since that time, Treasury has informally confirmed their interest in pursuing these arrangements.
Some proponents have attempted to restructure their offerings by pairing the pre-tax contribution with a small post-tax employee contribution, arguing that the post-tax component makes subsequent reimbursements permissible. However, this likely does not result in a permissible arrangement. The overwhelming majority of the cost remains in the pre-tax component, and the reimbursements flow from that pre-tax pool, not from the small post-tax amount. The bottom line is that if it sounds too good to be true, it probably is.
Link to The Real-World Consequences The Real-World Consequences
Consider the Classic 105 case. Total Financial Group marketed the “Classic 105” medical reimbursement arrangement program to more than 350 employers and roughly 4,000 employees. The program promised employees higher take‑home pay by having them make large pre‑tax “contributions” that would be paid back to the employee by third‑party loans. These loans would supposedly be repaid upon the employee’s death through a life insurance policy.
In reality, no loans were obtained, no life policies were issued, and the “contributions” were paper entries. The employees’ contributions were paid pre-tax, and the return payment was also treated as tax-free, even though the employee had not incurred an unreimbursed medical expense that would support exclusion under Section 105(b). The promoter collected about $25 million in fees while paying out only a small fraction in claims. The Department of Justice secured criminal convictions; the promoters were sentenced, and courts have since affirmed substantial restitution orders. Employers and employees who participated were left with significant unpaid tax exposure, interest, and penalties when the promised tax treatment collapsed.
Link to Thompson Hine Takeaways – What Employers Should Do Thompson Hine Takeaways – What Employers Should Do
Despite assertions you may hear to the contrary, nothing has changed in the law that would make double-dip arrangements permissible. Employers are ultimately responsible for tax reporting and withholding with regard to benefits they provide to their employees, and ignorance is not a defense against back taxes and interest.
If you find yourself on the receiving end of marketing with respect to one of these types of arrangement, watch out for the following red flags:
- Promises of huge employment tax savings: Marketing that emphasizes outsized FICA/FUTA savings or “turning payroll taxes into benefits,” rather than bona fide insurance value.
- “Money out = money in” design: Claims that employees can pay large pre‑tax “premiums” via a cafeteria plan and then receive near‑equal, “tax‑free” payments back through payroll.
- Benefits paid on a regular schedule, regardless of actual medical expenses or absence from work: Cash benefits are paid monthly or each pay period without matching documented medical bills or time off work.
- No documentation required for medical expenses: Employees are not asked to substantiate unreimbursed medical costs for the cash they receive.
- Fixed‑indemnity/wellness add‑ons used to generate cash payouts: A fixed‑indemnity or wellness policy is layered onto the medical plan and used to funnel regular cash payments through payroll.
- Pre‑tax funding under Section 125 with cash‑back benefits: Premiums are run pre‑tax, but the plan also returns cash benefits unrelated to actual expenses, sometimes paying for easy activities (e.g., a quick survey, routine wellness touchpoints) or simply for enrolling.
- Promises of “immediate take‑home pay increases”: Marketing that centers on boosting net pay or “turning taxes into benefits,” not on bona fide risk‑spreading insurance.
- Superficial post‑tax add-on: A minimal post‑tax premium is added to justify large “tax‑free” reimbursements, while most dollars still move pre‑tax.
- Payroll coding as non‑taxable wages: Vendors instruct employers to treat recurring wellness/indemnity payments as non‑taxable in the payroll system.
- Too‑good‑to‑be‑true economics: Projected savings far exceed standard arrangements.
- Heavy reliance on marketing opinions, not formal guidance: Vendors cite withdrawn proposals, informal commentary, or nonbinding letters rather than durable Treasury/IRS rules and rulings.
- One‑way risk for the employer: You are asked to implement and withhold less tax, while the vendor keeps fees and offers little contractual indemnity if the arrangement fails.
Be skeptical of the structures including any of the red flags mentioned above. Labels don’t control; the tax analysis does. If you’ve been pitched or implemented such a program, get counsel involved promptly to mitigate exposure, evaluate corrective filings, and reset compliance.
If you have any questions, please contact the authors or your Thompson Hine attorney.