[Congressional Record Volume 153, Number 26 (Monday, February 12, 2007)]
[Senate]
[Pages S1854-S1861]
From the Congressional Record Online through the Government Publishing Office [www.gpo.gov]

      By Ms. SNOWE (for herself, Mr. Bond, and Mr. Bingaman):
  S. 555. A bill to amend the Internal Revenue Code of 1986 to allow 
small businesses to set up simple cafeteria plans to provide nontaxable 
employee benefits to their employees, to make changes in the 
requirements for cafeteria plans, flexible spending accounts, and 
benefits provided under such plans or accounts, and for other purposes; 
to the Committee on Finance.
  Ms. SNOWE. Mr. President, I rise today to introduce the ``SIMPLE 
Cafeteria Plan Act of 2007,'' which will increase the access to 
quality, affordable health care for millions of small business owners 
and their employees. I am pleased that my good friend Senator Bond from 
Missouri, as well as my good friend from New Mexico, Senator Bingaman, 
have agreed to co-sponsor this critical piece of legislation.
  Regrettably, our Nation's healthcare system is in the midst of a 
crisis. Each year, more and more Americans are unable to purchase 
health insurance, and there are no signs that things are improving. As 
evidence, the United States Census Bureau estimates that nearly 47 
million people did not have health insurance coverage in 2005. Sadly, 
this number rose from 41.2 million uninsured persons in 2001--a 13 
percent increase.
  The lack of health insurance is even more troubling when we look 
specifically at the small business sector of our economy. In 2005, 
according to the Employee Benefit Research Institute, a non-partisan 
health policy group, nearly 63 percent of all uninsured workers were 
either self-employed or working for private-sector firms with fewer 
than 100 employees. In comparison, only 13.4 percent of workers in 
firms with more than 1,000 employees do not have health insurance. 
These numbers

[[Page S1858]]

demonstrate that the majority of uninsured Americans work for small 
enterprises.
  So why are our Nation's small businesses, which are our country's job 
creators and the true engine of our economic growth, so disadvantaged 
when it comes to purchasing health insurance?
  The main reason that small business owners do not offer their 
employees health insurance is because many of them cannot afford to 
provide any health insurance, or other benefits to their employees. 
Many other small companies can only afford to pay a portion of their 
employees' health insurance premiums. As a result, many small business 
employees must acquire health insurance from the private sector rather 
than through their work place. This more expensive alternative is not 
practical or possible for the majority of the uninsured.
  Clearly, we have a problem on our hands. While we can debate among 
ourselves why this crisis exists, and how we ended up here, what is not 
open for debate is that we need to start identifying ways to fix the 
system. It is simply unconscionable to do nothing while more and more 
Americans find themselves without health insurance and health care.
  Currently, many large companies, and even the Federal Government, 
allow their employees to purchase health insurance, and other qualified 
benefits, with tax-free dollars. Larger companies are able to offer 
these accounts because they meet the specific qualifications outlined 
in the tax code.
  Cafeteria plans is one means for employers to offer health benefits 
with pretax dollars. As the name suggests, cafeteria plans are programs 
where employees can purchase a range of qualified benefits. 
Specifically, cafeteria plans offer employees great flexibility in 
selecting their desired benefits while allowing them to disregard those 
benefits that do not fit their particular needs. Moreover, the 
employees are usually purchasing benefits at a lower cost because their 
employers are often able to obtain a reduced group rate price for their 
benefits.
  Typically, in cafeteria plans, a combination of employer 
contributions and employee contributions are used to fund the accounts 
that employees used to buy specific benefits. Under current law, 
qualified benefits include health insurance, dependent-care 
reimbursement, life and disability insurance. Unfortunately, long term 
care insurance is NOT currently a qualified benefit available for 
purchase in cafeteria plans. I will come back to long term care 
insurance in a moment.
  Clearly, cafeteria plans play a critical role in our Nation's health 
care system. The problem though, is that in order for companies to 
qualify for cafeteria plans they must satisfy the tax code's strict 
non-discrimination rules. These rules exist to ensure that companies 
offer the same benefits to their non-highly compensated employees that 
they offer to their highly compensated employees. These rules strive to 
ensure that non-highly compensated employees in fact receive a 
substantial portion of the employee benefits companies provide.
  Now, I want to be clear. I believe that these non-discrimination 
rules serve a legitimate purpose and are necessary employee 
protections. Indeed, we need to ensure that employers are not able to 
game the tax system so that the cafeteria plans that qualify for 
preferential tax treatment are used by a majority of a companies' 
employees. At the same time these benefits must be made available to 
small companies and not just large companies.
  Unfortunately, we often hear that small businesses lose skilled 
employees to larger companies simply because the bigger firm is able to 
offer a more generous employee benefit package. Many small firms have 
relatively few employees and a high proportion of owners or highly 
compensated individuals. Right now, if these small companies opened 
cafeteria plans they will likely violate the nondiscrimination rules, 
and subject their workers and organizations to taxable penalties.
  Consequently, many small companies simply forgo opening cafeteria 
plans and offering more comprehensive employee benefits because they 
fear they will violate the non-discrimination rules. According to the 
Employers' Council on Flexible Compensation, though roughly 38 million 
U.S. workers had access to cafeteria plans, only 19 percent of those 
workers were employees of small businesses.
  Allowing small business to offer cafeteria plans would provide them 
with much needed employee recruiting and retention tools. If more small 
business owners are able to offer their employees the chance to enjoy a 
variety of employee benefits these firms will be more likely to 
attract, recruit, and retain talented workers. This will ultimately 
increase their business output.
  In order to help small companies increase their employees access to 
health insurance and other benefits, and help them compete for talented 
professionals, I am introducing the SIMPLE Cafeteria Plan Act. This 
bill will enable small business employees to purchase health insurance 
with tax-free dollars in the same way that many employees of large 
companies already do in their cafeteria plans. My bill accomplishes 
this by creating a SIMPLE Cafeteria Plan, which is modeled after the 
Savings Incentive Match Plan for Employees, SIMPLE, pension plan.
  As with the SIMPLE pension plan, a small business employer that is 
willing to make a minimum contribution for all employees, or who is 
willing to match contributions, will be permitted to waive the non-
discrimination rules that currently prevent them from otherwise 
offering these benefits. This structure has worked extraordinarily well 
in the pension area with little risk of abuse. I am confident that it 
will be just as successful when it comes to broad-based benefits 
offered through cafeteria plans.
  In addition my bill will expand the types of qualified benefits that 
can be offered in SIMPLE cafeteria plans and existing cafeteria plans. 
These modifications will increase the benefits provided for all 
employees and the likelihood that employees will utilize their 
cafeteria plans to purchase these benefits.
  This legislation modifies rules that pertain to employer-provided 
dependent-care assistance plans. First, it would increase the current 
$5,000 annual contribution limitation of these plans to $10,000 for 
employees that claim two or more dependents on their tax return. This 
increase is significant because it will allow taxpayers to use their 
cafeteria accounts to pay for the care of their children and their 
elderly dependent family members. As the current baby-boomer generation 
continues to age, this scenario will become increasingly more common.
  The bill also works to address our aging populations' need for long-
term care insurance. Here in the United States, nearly half of all 
seniors age 65 or older will need long-term care at some point in their 
life. Unfortunately, most seniors have not adequately prepared for this 
possibility, just as many working age individuals have not given much 
thought to their eventual long-term care needs. With the cost of a 
private room in a nursing home averaging more than $72,000 annually, 
many Americans risk losing their life savings--and jeopardizing their 
children's inheritance--by failing to properly plan for the long-term 
care services they will need as they grow older.
  To address this problem, this bill would allow employees to purchase 
long-term care insurance coverage through their cafeteria plans and 
flexible spending arrangements. Allowing employers to offer long-term 
care benefits through these accounts would make long-term care 
insurance more affordable and help Americans prepare for their future 
long-term care needs.
  Additionally, by including long-term care insurance as a qualified 
benefit available for purchase in cafeteria plans employers will be 
able to include information about long-term care options in their 
employee benefit packages. This will help increase employee 
understanding of the need to plan for their care while also increasing 
their access to long-term care insurance.
  Small businesses are the backbone of the American economy. According 
to the Small Business Administration, small businesses represent 99 
percent of all employers, pay more than 45 percent of the private-
sector's payroll, and generated 60 to 80 percent of net new jobs 
annually over the last decade. It is critical that small businesses are 
able to offer their employees cafeteria plans so that they may purchase 
the health care and other benefits that will provide security for their 
families.

[[Page S1859]]

  The ``SIMPLE Cafeteria Plan Act of 2007'' achieves these objectives, 
in a manner that employers and employees can afford. Although the use 
of pre-tax dollars to acquire these benefits reduces current Federal 
revenues, the opportunity to provide small business employees these 
same benefits currently enjoyed by the employees of the Federal 
Government, and larger companies, more than justifies this minimal 
investment. Therefore, I urge my colleagues to join me in supporting 
this important legislation as we work with you to enact this bill into 
law.
  I ask unanimous consent that the text of the bill be printed in the 
Record.
  There being no objection, the text of the bill was ordered to be 
printed in the Record, as follows:

                                 S. 555

       Be it enacted by the Senate and House of Representatives of 
     the United States of America in Congress assembled,

     SECTION 1. SHORT TITLE.

       (a) Short Title.--This Act may be cited as the ``SIMPLE 
     Cafeteria Plan Act of 2007''.
       (b) Amendment of 1986 Code.--Except as otherwise expressly 
     provided, whenever in this Act an amendment or repeal is 
     expressed in terms of an amendment to, or repeal of, a 
     section or other provision, the reference shall be considered 
     to be made to a section or other provision of the Internal 
     Revenue Code of 1986.

     SEC. 2. ESTABLISHMENT OF SIMPLE CAFETERIA PLANS FOR SMALL 
                   BUSINESSES.

       (a) In General.--Section 125 (relating to cafeteria plans) 
     is amended by redesignating subsections (h) and (i) as 
     subsections (i) and (j), respectively, and by inserting after 
     subsection (g) the following new subsection:
       ``(h) Simple Cafeteria Plans for Small Businesses.--
       ``(1) In general.--An eligible employer maintaining a 
     simple cafeteria plan with respect to which the requirements 
     of this subsection are met for any year shall be treated as 
     meeting any applicable nondiscrimination requirement with 
     respect to benefits provided under the plan during such year.
       ``(2) Simple cafeteria plan.--For purposes of this 
     subsection, the term `simple cafeteria plan' means a 
     cafeteria plan--
       ``(A) which is established and maintained by an eligible 
     employer, and
       ``(B) with respect to which the contribution requirements 
     of paragraph (3), and the eligibility and participation 
     requirements of paragraph (4), are met.
       ``(3) Contributions requirements.--
       ``(A) In general.--The requirements of this paragraph are 
     met if, under the plan--
       ``(i) the employer makes matching contributions on behalf 
     of each employee who is eligible to participate in the plan 
     and who is not a highly compensated or key employee in an 
     amount equal to the elective plan contributions of the 
     employee to the plan to the extent the employee's elective 
     plan contributions do not exceed 3 percent of the employee's 
     compensation, or
       ``(ii) the employer is required, without regard to whether 
     an employee makes any elective plan contribution, to make a 
     contribution to the plan on behalf of each employee who is 
     not a highly compensated or key employee and who is eligible 
     to participate in the plan in an amount equal to at least 2 
     percent of the employee's compensation.
       ``(B) Matching contributions on behalf of highly 
     compensated and key employees.--The requirements of 
     subparagraph (A)(i) shall not be treated as met if, under the 
     plan, the rate of matching contribution with respect to any 
     elective plan contribution of a highly compensated or key 
     employee at any rate of contribution is greater than that 
     with respect to an employee who is not a highly compensated 
     or key employee.
       ``(C) Special rules.--
       ``(i) Time for making contributions.--An employer shall not 
     be treated as failing to meet the requirements of this 
     paragraph with respect to any elective plan contributions of 
     any compensation, or employer contributions required under 
     this paragraph with respect to any compensation, if such 
     contributions are made no later than the 15th day of the 
     month following the last day of the calendar quarter which 
     includes the date of payment of the compensation.
       ``(ii) Form of contributions.--Employer contributions 
     required under this paragraph may be made either to the plan 
     to provide benefits offered under the plan or to any person 
     as payment for providing benefits offered under the plan.
       ``(iii) Additional contributions.--Subject to subparagraph 
     (B), nothing in this paragraph shall be treated as 
     prohibiting an employer from making contributions to the plan 
     in addition to contributions required under subparagraph (A).
       ``(D) Definitions.--For purposes of this paragraph--
       ``(i) Elective plan contribution.--The term `elective plan 
     contribution' means any amount which is contributed at the 
     election of the employee and which is not includible in gross 
     income by reason of this section.
       ``(ii) Highly compensated employee.--The term `highly 
     compensated employee' has the meaning given such term by 
     section 414(q).
       ``(iii) Key employee.--The term `key employee' has the 
     meaning given such term by section 416(i).
       ``(4) Minimum eligibility and participation requirements.--
       ``(A) In general.--The requirements of this paragraph shall 
     be treated as met with respect to any year if, under the 
     plan--
       ``(i) all employees who had at least 1,000 hours of service 
     for the preceding plan year are eligible to participate, and
       ``(ii) each employee eligible to participate in the plan 
     may, subject to terms and conditions applicable to all 
     participants, elect any benefit available under the plan.
       ``(B) Certain employees may be excluded.--For purposes of 
     subparagraph (A)(i), an employer may elect to exclude under 
     the plan employees--
       ``(i) who have less than 1 year of service with the 
     employer as of any day during the plan year,
       ``(ii) who have not attained the age of 21 before the close 
     of a plan year,
       ``(iii) who are covered under an agreement which the 
     Secretary of Labor finds to be a collective bargaining 
     agreement if there is evidence that the benefits covered 
     under the cafeteria plan were the subject of good faith 
     bargaining between employee representatives and the employer, 
     or
       ``(iv) who are described in section 410(b)(3)(C) (relating 
     to nonresident aliens working outside the United States).

     A plan may provide a shorter period of service or younger age 
     for purposes of clause (i) or (ii).
       ``(5) Eligible employer.--For purposes of this subsection--
       ``(A) In general.--The term `eligible employer' means, with 
     respect to any year, any employer if such employer employed 
     an average of 100 or fewer employees on business days during 
     either of the 2 preceding years. For purposes of this 
     subparagraph, a year may only be taken into account if the 
     employer was in existence throughout the year.
       ``(B) Employers not in existence during preceding year.--If 
     an employer was not in existence throughout the preceding 
     year, the determination under subparagraph (A) shall be based 
     on the average number of employees that it is reasonably 
     expected such employer will employ on business days in the 
     current year.
       ``(C) Growing employers retain treatment as small 
     employer.--If--
       ``(i) an employer was an eligible employer for any year (a 
     `qualified year'), and
       ``(ii) such employer establishes a simple cafeteria plan 
     for its employees for such year, then, notwithstanding the 
     fact the employer fails to meet the requirements of 
     subparagraph (A) for any subsequent year, such employer shall 
     be treated as an eligible employer for such subsequent year 
     with respect to employees (whether or not employees during a 
     qualified year) of any trade or business which was covered by 
     the plan during any qualified year. This subparagraph shall 
     cease to apply if the employer employs an average of 200 more 
     employees on business days during any year preceding any such 
     subsequent year.
       ``(D) Special rules.--
       ``(i) Predecessors.--Any reference in this paragraph to an 
     employer shall include a reference to any predecessor of such 
     employer.
       ``(ii) Aggregation rules.--All persons treated as a single 
     employer under subsection (a) or (b) of section 52, or 
     subsection (n) or (o) of section 414, shall be treated as one 
     person.
       ``(6) Applicable nondiscrimination requirement.--For 
     purposes of this subsection, the term `applicable 
     nondiscrimination requirement' means any requirement under 
     subsection (b) of this section, section 79(d), section 
     105(h), or paragraph (2), (3), (4), or (8) of section 129(d).
       ``(7) Compensation.--The term `compensation' has the 
     meaning given such term by section 414(s).''.
       (b) Effective Date.--The amendments made by this section 
     shall apply to years beginning after December 31, 2006.

     SEC. 3. MODIFICATIONS OF RULES APPLICABLE TO CAFETERIA PLANS.

       (a) Application to Self-Employed Individuals.--
       (1) In general.--Section 125(d) (defining cafeteria plan) 
     is amended by adding at the end the following new paragraph:
       ``(3) Employee to include self-employed.--
       ``(A) In general.--The term `employee' includes an 
     individual who is an employee within the meaning of section 
     401(c)(1) (relating to self-employed individuals).
       ``(B) Limitation.--The amount which may be excluded under 
     subsection (a) with respect to a participant in a cafeteria 
     plan by reason of being an employee under subparagraph (A) 
     shall not exceed the employee's earned income (within the 
     meaning of section 401(c)) derived from the trade or business 
     with respect to which the cafeteria plan is established.''.
       (2) Application to benefits which may be provided under 
     cafeteria plan.--
       (A) Group-term life insurance.--Section 79 (relating to 
     group-term life insurance provided to employees) is amended 
     by adding at the end the following new subsection:
       ``(f) Employee Includes Self-Employed.--
       ``(1) In general.--For purposes of this section, the term 
     `employee' includes an individual who is an employee within 
     the meaning of section 401(c)(1) (relating to self-employed 
     individuals).
       ``(2) Limitation.--The amount which may be excluded under 
     the exceptions contained

[[Page S1860]]

     in subsection (a) or (b) with respect to an individual 
     treated as an employee by reason of paragraph (1) shall not 
     exceed the employee's earned income (within the meaning of 
     section 401(c)) derived from the trade or business with 
     respect to which the individual is so treated.''.
       (B) Accident and health plans.--Section 105(g) is amended 
     to read as follows:
       ``(g) Employee Includes Self-Employed.--
       ``(1) In general.--For purposes of this section, the term 
     `employee' includes an individual who is an employee within 
     the meaning of section 401(c)(1) (relating to self-employed 
     individuals).
       ``(2) Limitation.--The amount which may be excluded under 
     this section by reason of subsection (b) or (c) with respect 
     to an individual treated as an employee by reason of 
     paragraph (1) shall not exceed the employee's earned income 
     (within the meaning of section 401(c)) derived from the trade 
     or business with respect to which the accident or health 
     insurance was established.''.
       (C) Contributions by employers to accident and health 
     plans.--
       (i) In general.--Section 106, as amended by subsection (b), 
     is amended by adding after subsection (b) the following new 
     subsection:
       ``(c) Employer to Include Self-Employed.--
       ``(1) In general.--For purposes of this section, the term 
     `employee' includes an individual who is an employee within 
     the meaning of section 401(c)(1) (relating to self-employed 
     individuals).
       ``(2) Limitation.--The amount which may be excluded under 
     subsection (a) with respect to an individual treated as an 
     employee by reason of paragraph (1) shall not exceed the 
     employee's earned income (within the meaning of section 
     401(c)) derived from the trade or business with respect to 
     which the accident or health insurance was established.''.
       (ii) Clarification of limitations on other coverage.--The 
     first sentence of section 162(l)(2)(B) is amended to read as 
     follows: ``Paragraph (1) shall not apply to any taxpayer for 
     any calendar month for which the taxpayer participates in any 
     subsidized health plan maintained by any employer (other than 
     an employer described in section 401(c)(4)) of the taxpayer 
     or the spouse of the taxpayer.''.
       (b) Long-Term Care Insurance Permitted to Be Offered Under 
     Cafeteria Plans and Flexible Spending Arrangements.--
       (1) Cafeteria plans.--The last sentence of section 125(f) 
     (defining qualified benefits) is amended to read as follows: 
     ``Such term shall include the payment of premiums for any 
     qualified long-term care insurance contract (as defined in 
     section 7702B) to the extent the amount of such payment does 
     not exceed the eligible long-term care premiums (as defined 
     in section 213(d)(10)) for such contract.''.
       (2) Flexible spending arrangements.--Section 106 (relating 
     to contributions by employer to accident and health plans) is 
     amended by striking subsection (c).
       (c) Effective Date.--The amendments made by this section 
     shall apply to taxable years beginning after December 31, 
     2006.

     SEC. 4. MODIFICATION OF RULES APPLICABLE TO FLEXIBLE SPENDING 
                   ARRANGEMENTS.

       (a) Modification of Rules.--
       (1) In general.--Section 125 of the Internal Revenue Code 
     of 1986, as amended by section 2, is amended by redesignating 
     subsections (i) and (j) as subsections (j) and (k), 
     respectively, and by inserting after subsection (h) the 
     following new subsection:
       ``(i) Special Rules Applicable to Flexible Spending 
     Arrangements.--
       ``(1) In general.--For purposes of this title, a plan or 
     other arrangement shall not fail to be treated as a flexible 
     spending or similar arrangement solely because under the plan 
     or arrangement--
       ``(A) the amount of the reimbursement for covered expenses 
     at any time may not exceed the balance in the participant's 
     account for the covered expenses as of such time,
       ``(B) except as provided in paragraph (4)(A)(ii), a 
     participant may elect at any time specified by the plan or 
     arrangement to make or modify any election regarding the 
     covered benefits, or the level of covered benefits, of the 
     participant under the plan, and
       ``(C) a participant is permitted access to any unused 
     balance in the participant's accounts under such plan or 
     arrangement in the manner provided under paragraph (2) or 
     (3).
       ``(2) Carryovers and rollovers of unused benefits in health 
     and dependent care arrangements.--
       ``(A) In general.--A plan or arrangement may permit a 
     participant in a health flexible spending arrangement or 
     dependent care flexible spending arrangement to elect--
       ``(i) to carry forward any aggregate unused balances in the 
     participant's accounts under such arrangement as of the close 
     of any year to the succeeding year, or
       ``(ii) to have such balance transferred to a plan described 
     in subparagraph (E)

     .Such carryforward or transfer shall be treated as having 
     occurred within 30 days of the close of the year.
       ``(B) Dollar limit on carryforwards.--
       ``(i) In general.--The amount which a participant may elect 
     to carry forward under subparagraph (A)(i) from any year 
     shall not exceed $500. For purposes of this paragraph, all 
     plans and arrangements maintained by an employer or any 
     related person shall be treated as 1 plan.
       ``(ii) Cost-of-living adjustment.--In the case of any 
     taxable year beginning in a calendar year after 2007, the 
     $500 amount under clause (i) shall be increased by an amount 
     equal to--

       ``(I) $500, multiplied by
       ``(II) the cost-of-living adjustment determined under 
     section 1(f)(3) for such calendar year, determined by 
     substituting `2006' for `1992' in subparagraph (B) thereof

     .If any dollar amount as increased under this clause is not a 
     multiple of $100, such amount shall be rounded to the next 
     lowest multiple of $100.
       ``(C) Exclusion from gross income.--No amount shall be 
     required to be included in gross income under this chapter by 
     reason of any carryforward or transfer under this paragraph.
       ``(D) Coordination with limits.--
       ``(i) Carryforwards.--The maximum amount which may be 
     contributed to a health flexible spending arrangement or 
     dependent care flexible spending arrangement for any year to 
     which an unused amount is carried under this paragraph shall 
     be reduced by such amount.
       ``(ii) Rollovers.--Any amount transferred under 
     subparagraph (A)(ii) shall be treated as an eligible rollover 
     under section 219, 223(f)(5), 401(k), 403(b), or 457, 
     whichever is applicable, except that--

       ``(I) the amount of the contributions which a participant 
     may make to the plan under any such section for the taxable 
     year including the transfer shall be reduced by the amount 
     transferred, and
       ``(II) in the case of a transfer to a plan described in 
     clause (ii) or (iii) of subparagraph (E), the transferred 
     amounts shall be treated as elective deferrals for such 
     taxable year.

       ``(E) Plans.--A plan is described in this subparagraph if 
     it is--
       ``(i) an individual retirement plan,
       ``(ii) a qualified cash or deferred arrangement described 
     in section 401(k),
       ``(iii) a plan under which amounts are contributed by an 
     individual's employer for an annuity contract described in 
     section 403(b),
       ``(iv) an eligible deferred compensation plan described in 
     section 457, or
       ``(v) a health savings account described in section 223.
       ``(3) Distribution upon termination.--
       ``(A) In general.--A plan or arrangement may permit a 
     participant (or any designated heir of the participant) to 
     receive a cash payment equal to the aggregate unused account 
     balances in the plan or arrangement as of the date the 
     individual is separated (including by death or disability) 
     from employment with the employer maintaining the plan or 
     arrangement.
       ``(B) Inclusion in income.--Any payment under subparagraph 
     (A) shall be includible in gross income for the taxable year 
     in which such payment is distributed to the employee.
       ``(4) Terms relating to flexible spending arrangements.--
       ``(A) Flexible spending arrangements.--
       ``(i) In general.--For purposes of this subsection, a 
     flexible spending arrangement is a benefit program which 
     provides employees with coverage under which specified 
     incurred expenses may be reimbursed (subject to reimbursement 
     maximums and other reasonable conditions).
       ``(ii) Elections required.--A plan or arrangement shall not 
     be treated as a flexible spending arrangement unless a 
     participant may at least 4 times during any year make or 
     modify any election regarding covered benefits or the level 
     of covered benefits.
       ``(B) Health and dependent care arrangements.--The terms 
     `health flexible spending arrangement' and `dependent care 
     flexible spending arrangement' means any flexible spending 
     arrangement (or portion thereof) which provides payments for 
     expenses incurred for medical care (as defined in section 
     213(d)) or dependent care (within the meaning of section 
     129), respectively.''.
       (2) Conforming amendments.--
       (A) The heading for section 125 of the Internal Revenue 
     Code of 1986 is amended by inserting ``AND FLEXIBLE SPENDING 
     ARRANGEMENTS'' after ``PLANS''.
       (B) The item relating to section 125 of such Code in the 
     table of sections for part III of subchapter B of chapter 1 
     is amended by inserting ``and flexible spending 
     arrangements'' after ``plans''.
       (b) Technical Amendments.--
       (1) Section 106 is amended by striking subsection (e) 
     (relating to FSA and HRA Terminations to Fund HSAs).
       (2) Section 223(c)(1)(A)(iii)(II) is amended to read as 
     follows:

       ``(II) the individual is transferring the entire balance of 
     such arrangement as of the end of the plan year to a health 
     savings account pursuant to section 125(i)(2)(A)(ii), in 
     accordance with rules prescribed by the Secretary.''.

       (c) Effective Date.--The amendments made by this section 
     shall take effect on the date of the enactment of this Act.

     SEC. 5. RULES RELATING TO EMPLOYER-PROVIDED HEALTH AND 
                   DEPENDENT CARE BENEFITS.

       (a) Health Benefits.--Section 106, as amended by section 
     4(b), is amended by adding at the end the following new 
     subsection:
       ``(e) Limitation on Contributions to Health Flexible 
     Spending Arrangements.--
       ``(1) In general.--Gross income of an employee for any 
     taxable year shall include employer-provided coverage 
     provided through 1 or more health flexible spending 
     arrangements (within the meaning of section 125(i))

[[Page S1861]]

     to the extent that the amount otherwise excludable under 
     subsection (a) with regard to such coverage exceeds the 
     applicable dollar limit for the taxable year.
       ``(2) Applicable dollar limit.--For purposes of this 
     subsection--
       ``(A) In general.--The applicable dollar limit for any 
     taxable year is an amount equal to the sum of--
       ``(i) $7,500, plus
       ``(ii) if the arrangement provides coverage for 1 or more 
     individuals in addition to the employee, an amount equal to 
     one-third of the amount in effect under clause (i) (after 
     adjustment under subparagraph (B)).
       ``(B) Cost-of-living adjustment.--In the case of taxable 
     years beginning in any calendar year after 2007, the $7,500 
     amount under subparagraph (A) shall be increased by an amount 
     equal to--
       ``(i) $7,500, multiplied by
       ``(ii) the cost-of-living adjustment determined under 
     section 1(f)(3) for the calendar year, determined by 
     substituting `2006' for `1992' in subparagraph (B) thereof.

     If any dollar amount as increased under this subparagraph is 
     not a multiple of $100, such dollar amount shall be rounded 
     to the next lowest multiple of $100.''.
       (b) Dependent Care.--
       (1) Exclusion limit.--
       (A) In general.--Section 129(a)(2) (relating to limitation 
     on exclusion) is amended--
       (i) by striking ``$5,000'' and inserting ``the applicable 
     dollar limit'', and
       (ii) by striking ``$2,500'' and inserting ``one-half of 
     such limit''.
       (B) Applicable dollar limit.--Section 129(a) is amended by 
     adding at the end the following new paragraph:
       ``(3) Applicable dollar limit.--For purposes of this 
     subsection--
       ``(A) In general.--The applicable dollar limit is $5,000 
     ($10,000 if dependent care assistance is provided under the 
     program to 2 or more qualifying individuals of the employee).
       ``(B) Cost-of-living adjustments.--
       ``(i) $5,000 amount.--In the case of taxable years 
     beginning after 2007, the $5,000 amount under subparagraph 
     (A) shall be increased by an amount equal to--

       ``(I) $5,000, multiplied by
       ``(II) the cost-of-living adjustment determined under 
     section 1(f)(3) for the calendar year in which the taxable 
     year begins, determined by substituting `2006' for `1992' in 
     subparagraph (B) thereof.

     If any dollar amount as increased under this clause is not a 
     multiple of $100, such dollar amount shall be rounded to the 
     next lowest multiple of $100.
       ``(ii) $10,000 amount.--The $10,000 amount under 
     subparagraph (A) for taxable years beginning after 2005 shall 
     be increased to an amount equal to twice the amount the 
     $5,000 amount is increased to under clause (i).''.
       (2) Average benefits test.--
       (A) In general.--Section 129(d)(8)(A) (relating to 
     benefits) is amended--
       (i) by striking ``55 percent'' and inserting ``60 
     percent'', and
       (ii) by striking ``highly compensated employees'' the 
     second place it appears and inserting ``employees receiving 
     benefits''.
       (B) Salary reduction agreements.--Section 129(d)(8)(B) 
     (relating to salary reduction agreements) is amended--
       (i) by striking ``$25,000'' and inserting ``$30,000'', and
       (ii) by adding at the end the following: ``In the case of 
     years beginning after 2007, the $30,000 amount in the first 
     sentence shall be adjusted at the same time, and in the same 
     manner, as the applicable dollar amount is adjusted under 
     subsection (a)(3)(B).''.
       (3) Principal shareholders or owners.--Section 129(d)(4) 
     (relating to principal shareholders and owners) is amended by 
     adding at the end the following: ``In the case of any failure 
     to meet the requirements of this paragraph for any year, 
     amounts shall only be required by reason of the failure to be 
     included in gross income of the shareholders or owners who 
     are members of the class described in the preceding 
     sentence.''.
       (c) Effective Date.--The amendments made by this section 
     shall apply to taxable years beginning after December 31, 
     2006.
                                 ______