What Is a Cafeteria Plan?

Alene Laney is a personal finance writer for The Balance since 2021. She has written for the Chicago Tribune, Yahoo Finance, and Rocket Mortgage.

Sarah Fisher is an associate editor at The Balance with two years of personal finance and business writing experience. She has written about personal finance for SmartAsset, and has held internships at the Consumer Financial Protection Bureau and Senator Kirsten Gillibrand's office.

A cafeteria plan is an employer-sponsored program through which employees can elect to contribute pre-tax dollars to benefit accounts for certain qualified expenses including approved medical, dependent care, and adoption expenses.

Key Takeaways

• Cafeteria plans sponsored through an employer can reduce your taxable income.
• You can use the money in your cafeteria plan to pay for qualified medical expenses, contribute to an FSA, or pay health insurance premiums.
• You can use your cafeteria plan to pay for other qualified benefits, like adoption expenses, accident and health benefits, dependent-care costs, group term life insurance, and health savings accounts.

How a Cafeteria Plan Works

If your company offers a cafeteria plan, you'll most likely be able to sign up during your company’s open enrollment period. If you decide you want to enroll, you can choose or "elect" how much you’d like to contribute to your plan.

You'll be able to be reimbursed throughout the year from this plan for any qualifying expenses. Keep in mind that you can only change your election if you have a qualifying life circumstance. Qualifying circumstances can include marriage, divorce, or a change in employment.

Note

Cafeteria plans are also called Section 125 plans or flexible benefits plans.

Qualified benefits eligible for cafeteria plans include:

• Health insurance premiums (excluding Archer medical savings accounts or long-term care insurance)
• Accident insurance
• Adoption expenses
• Dependent-care expenses
• Group term life insurance coverage
• Health savings accounts, including long-term care services
• Flexible spending accounts (FSA)

When an expense not covered by your health insurance comes up, you can use your cafeteria plan funds to pay for your expenses. Keep in mind, though, that you may lose any unused money you contribute to your plan. Make sure you know whether or not your money will roll over.

Your employer should provide you with documents that detail the plan benefits and any rules or eligibility requirements you need to know about.

Note

Unless your company’s documentation says otherwise, you will forfeit any unused funds left in an FSA at the end of the year.

How Cafeteria Plans Offer a Tax Break

Cafeteria plans tend to reduce your tax liability because your money is taken out pretax. Although the take-home pay initially looks lower, if you're going to need to cover health care costs or dependent care costs, you'll end up saving money by using a cafeteria plan.

“I think that employees often overlook the fact that making an election to contribute to a cafeteria plan will result in a lower tax burden for them,” William Sweetnam, a legislative and technical director for Employers Council on Flexible Compensation (ECFC), told The Balance in an email interview.

“However, since they have to make the salary reduction election at the beginning of the year, an employee may be unaware of the tax benefits that he will have all through the year.”

Example of a Cafeteria Plan

A health care flexible spending account (FSA) is an example of a benefit offered under a cafeteria plan. A flexible spending arrangement is an employer-sponsored benefit that allows you to contribute pretax dollars to use for out-of-pocket medical or dependent care expenses.

Let’s use a health FSA as an example. During open enrollment, you specify that you want to put $3,050 (the maximum amount allowed in 2023) in your FSA for the year. That amount will be divided by the number of pay periods, and a corresponding number will be withheld from the paycheck every pay period—$117.31 if you’re paid every two weeks.

In the new plan year, the full amount you elected to withhold for the year is deposited into your account by the employer; the employer essentially fronts the account money for the next year.

The money in this account is to be used only for qualified expenses and must only be used within the plan year.

When you incur a qualified expense, you’ll submit proof of payment to the FSA account’s administrators. Reimbursement will come in the form of a check or direct deposit, depending on how your account was set up.

Do You Need a Cafeteria Plan?

The main benefit of a cafeteria plan is its power to lessen your tax burden by providing benefit accounts for health and dependent-care expenses. If you believe you'll have medical or dependent-care expenses, putting money in this type of plan would most likely help you save.

Determining how much money you want to set aside for the year can be a challenge—one you’ll want to discuss with your benefits administrator. For plans like FSAs, if you don’t use all the money, you’ll lose it, so a cafeteria plan may be a good choice for you if you know you have qualified expenses, and how much they usually cost each year.

How To Get a Cafeteria Plan

Cafeteria plans are available to employees, their spouses, and dependents. If your employer has one, you should be eligible to enroll when hired or during your employer’s open enrollment period.

To find specifics about the program you’re interested in, you can visit your employer’s benefit website or ask your HR representative what might be available.

Note

Self-employed individuals are generally not eligible to set up cafeteria plans.

Employers interested in setting up a cafeteria plan for their employees can begin by adopting a written plan document, making sure employees know their plan elections are irrevocable for the plan year, and satisfying nondiscrimination requirements for the benefits provided.

Frequently Asked Questions

Is a cafeteria plan the same as a 401(k)?

No. A 401(k) is a retirement account that can be created by an employee or self-employed person. A cafeteria plan is designed to allow employees to pay for medical expenses and dependent care expenses with pre-tax dollars. The money in many types of cafeteria plans will not roll over from one year to the next.

What does a cafeteria plan include?

A cafeteria plan allows employees to put tax-free money into an account that they can use to cover qualifying medical or dependent care expenses. Health savings accounts, health flexible savings accounts, and dependent flexible savings accounts are all types of cafeteria plans.

The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.

1. IRS. "FAQs for Government Entities Regarding Cafeteria Plans."
2. TASC. "Section 125 Cafeteria Plan."
3. BusinessPlans. "What Happens if There Is Money Left in My Account at the End of the Claim Period After All My Eligible Expenses Have Been Reimbursed?"
4. SHRM. "2023 Health FSA Contribution Cap Rises to $3,050."

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