Reimbursements for Prior Medical Expenses Includible in Income

Employer M established a self-insured medical expense reimbursement plan on December 1. The plan was effective as of January 1 of that year. Under the plan, a participating employee is eligible for reimbursement of medical expenses incurred by the employee and his or her spouse and dependents during the plan year (January 1 through December 31). Employee A became a plan participant on December 1.

Prior to the establishment of the plan, A had incurred medical expenses qualifying for reimbursement under the plan and submitted those claims for reimbursement to M in December. M reimbursed A for the medical expenses incurred prior to the establishment of the plan in accordance with the plan terms.

Analysis

Sec. 61(a) generally provides that gross income means all income from whatever source derived. Sec. 105(a) provides that, generally, amounts received by an employee through accident or health insurance for personal injuries or sickness shall be included in gross income to the extent such amounts are (1) attributable to contributions by the employer, which were not includible in the employee’s gross income or (2) paid by the employer. However, Sec. 105(b) provides that gross income does not include amounts paid (directly or indirectly) to a taxpayer to reimburse him or her for expenses incurred for medical care (as defined in Sec. 213(d)) of the taxpayer, and his or her spouse and dependents.

Sec. 105(e) provides that amounts received under an accident or health plan for employees will be treated as amounts received through accident or health insurance for purposes of Sec. 105(a) and (b). Regs. Sec. 1.105-5(a) provides that an accident or health plan is an arrangement for the payment of amounts to employees in the event of personal injuries or sickness.

In Rev. Rul. 71-403, an employer established a plan for its employees that qualified as an accident and health plan. All of the employees were covered under the plan and had an enforceable right to be reimbursed for medical expenses from and after plan inception, but not before plan inception. A number of the employees were absent from work due to personal injury or sickness when the plan went into effect. The ruling held that reimbursements to employees for medical expenses incurred after the inception of the employer’s accident and health plan were excludible from gross income, even though the employees were unable to work because of injury or sickness when the plan went into effect.

In American Family Mutual Insurance Co., 815 F Supp 1206 (WD WI 1992), the employer established a medical expense reimbursement plan to which Sec. 105 applied. The plan was established in November and made retroactive to January 1 of that year. Employees were reimbursed for medical expenses incurred before the plan was established. The court concluded that the retroactive accident and health plan was invalid; thus, reimbursements of medical expenses incurred before the establishment of the plan were includible in the employees’ gross income and not excludible under Sec. 105(b).

In Wollenberg, 75 FSupp2d 1032 (NE 1999), a calendar-year accident and health plan was established in December. The plan was effective from January of the plan year. The court held that reimbursements for medical expenses incurred before the establishment of the medical expense reimbursement plan were not excludible under Sec. 105(b).

A self-insured medical expense reimbursement plan is treated as accident and health insurance under Sec. 105(e). Thus, medical expense reimbursements paid under such a plan are excludible from an employee’s gross income under Sec. 105(b). However, reimbursements of medical expenses incurred before establishment of a plan are not paid or received under an accident or health plan and, thus, are not so excludible.

Rev. Rul. 2002-58, IRB 2002-38