What happens to an employee's payroll contribution to an HSA without a Section 125 Plan in place?

When an employee makes payroll contributions to a Health Savings Account (HSA) without a Section 125 Plan in place, those contributions are considered taxable income to the employee. This is significant because a Section 125 Plan, also known as a cafeteria plan, allows for pre-tax contributions, which effectively lowers the employee's taxable income.

Without this structured plan, any contributions made towards the HSA from the employee's payroll are not exempt from federal income or payroll taxes. As a result, the employee's total taxable income remains higher, meaning they will not receive the tax advantages typically associated with HSA contributions. This understanding underscores the importance of having the Section 125 Plan in place, as it allows for tax-free contributions which maximize the benefits of the Health Savings Account.