Cafeteria plan

A cafeteria plan is a type of employee benefit plan offered in the United States pursuant to Section 125 of the Internal Revenue Code. Its name comes from the earliest such plans that allowed employees to choose between different types of benefits, similar to the ability of a customer to choose among available items in a cafeteria. Qualified cafeteria plans are excluded from gross income. To qualify, a cafeteria plan must allow employees to choose from two or more benefits consisting of cash or qualified benefit plans. The Internal Revenue Code explicitly excludes deferred compensation plans from qualifying as a cafeteria plan subject to a gross income exemption. Section 125 also provides two exceptions.

If the cafeteria plan discriminates in favor of highly compensated employees, the highly compensated employees will be required to report their cafeteria plan benefits as income. The second exception is that if "the statutory nontaxable benefits provided to key employees exceed 25 percent of the aggregate of such benefits provided for all employees under the plan," then the key employees must report their cafeteria plan benefits as income. Effective January 1, 2011, eligible employers meeting contribution requirements and eligibility and participation requirements can establish a "simple" cafeteria plan. Simple cafeteria plans are treated as meeting the nondiscrimination requirements of a cafeteria plan and certain benefits under a cafeteria plan.

The Cafeteria Benefits Plan was a result of the revelation that "one universal benefit program can no longer do the job," said Thomas E. Wood of Hewitt Associates and chairman of the Corporate Board for the International Foundation of Employee Benefit Plans. Wood was the originator of flexible compensation due to the fact American corporations and households were becoming increasingly dynamic and globalized. As quoted in his chapter of the business publication, Business, Work, and Benefits: Adjusting to Change produced by the Employee Benefit Research Institute, "Wood's framework creates a specific detailed picture. The concepts include the establishment of a basic "safety net" of benefits to cover financial hazards associated with old age, death and disability, and catastrophic medical expenses, with supplementary benefits offered on a defined contribution basis".

Cafeteria plans were added to the Internal Revenue Code in November 1978. Internal Revenue Code Section 125 sets forth the requirements and tax treatment of cafeteria plans. Section 125 has been amended multiple times since its enactment.

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