The Pre-Tax PlaybookThe employer's briefing on Section 125 benefits
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Guide

Section 125 cafeteria plans: the basics

How pre-tax premiums work, who can use them, and the paperwork that keeps them pre-tax.

Reviewed November 12, 2026 · Pre-Tax Playbook editorial team · Not tax or legal advice

Required federal noticeFixed indemnity insurance

IMPORTANT: This is a fixed indemnity policy, NOT health insurance

This fixed indemnity policy may pay you a limited dollar amount if you're sick or hospitalized. You're still responsible for paying the cost of your care.

  • The payment you get isn't based on the size of your medical bill.
  • There might be a limit on how much this policy will pay each year.
  • This policy isn't a substitute for comprehensive health insurance.
  • Since this policy isn't health insurance, it doesn't have to include most Federal consumer protections that apply to health insurance.

Looking for comprehensive health insurance?

  • Visit HealthCare.gov or call 1-800-318-2596 (TTY: 1-855-889-4325) to find health coverage options.
  • To find out if you can get health insurance through your job, or a family member's job, contact the employer.

Questions about this policy?

  • For questions or complaints about this policy, contact your State Department of Insurance. Find their number on the National Association of Insurance Commissioners' website (naic.org) under "Insurance Departments."
  • If you have this policy through your job, or a family member's job, contact the employer.

Section 125 cafeteria plan (noun): a written employer plan under Internal Revenue Code §125 that lets employees choose between taxable cash pay and certain qualified benefits, paying for those benefits with pre-tax salary reductions.

What a cafeteria plan does

A cafeteria plan lets an employee pay certain benefit premiums out of gross pay, before taxes. The salary reduction used to buy health coverage isn't included in the employee's gross income.[1] Premiums paid that way for accident or health insurance are excluded from income under Section 106.[2] The result: taxable wages go down, so the employee owes less income tax and FICA, and the employer owes less FICA on those dollars.[1, 3]

It has to be a written plan, run the way it's written

Pre-tax treatment depends on a written cafeteria plan, consistent elections and proper operation, including nondiscrimination testing.[4] Plans with 100 or more participants generally also carry ERISA paperwork, such as a summary plan description and possibly Form 5500 filings.[5]

Who can participate pre-tax

  • Only W-2 employees can pay pre-tax. Partners, more-than-2% S-corporation shareholders and 1099 contractors are treated differently.[6]
  • In the program this site covers, not every employee qualifies. Employees must earn enough each week for the deduction to work in their favor, and Elysian screens each employee. In Elysian's case data, roughly 60–80% of a workforce qualified.[7]

Elections are usually locked for the plan year

Under Section 125, elections are generally irrevocable for the plan year unless the employee has a qualifying change in status. One client's authorization form for this program calls the election “irrevocable” for the plan year.[8] Employees should get advance notice and an easy opt-out before coverage starts.[9]

What Section 125 does not decide

Section 125 settles how the premium is taxed. It doesn't decide how benefit payments are taxed. Sections 105 and 104 govern that, and it's where the IRS has drawn its lines on fixed indemnity plans paid pre-tax.[10, 11] Read FICA and payroll tax mechanics and The lines the IRS has drawn next.

Key takeaways

  • Pre-tax premiums through a written §125 plan are standard and well established.[1]
  • Only W-2 employees can participate, and not every employee benefits.[6, 7]
  • The hard question is how the benefit payments are taxed, not the premium.[10]

Sources & footnotes

  1. Verified Step 1 — pre-tax premium through a Section 125 cafeteria plan. IRS Chief Counsel Advice 202323006; Elysian enrollment authorization (JobsRUs). Proof library P-30
  2. Verified Section 106: pre-tax health premiums are excluded from income. Treasury/DOL/HHS final rule, 89 FR 23338. Proof library P-47
  3. Verified Employer FICA is 7.65% for most hourly workers. Social Security Administration — maximum taxable earnings; IRS Tax Topic 751 — Social Security and Medicare withholding rates. Proof library P-40
  4. Verified Section 125 requires a written cafeteria plan. Elysian Dealer FAQ. Proof library P-46
  5. Elysian-stated ERISA documents. Elysian Dealer FAQ. Proof library P-54
  6. Verified Only W-2 employees participate pre-tax. Elysian Dealer FAQ. Proof library P-44
  7. Elysian-stated Not everyone qualifies. Elysian PEO implementation guide (provided by Elysian); Elysian benefits proposal (provided by Elysian); Elysian client flyer (JobsRUs, 2025). Proof library P-43
  8. Analysis What employees should know. Elysian enrollment authorization (JobsRUs). Proof library P-39
  9. Elysian-stated Notice and easy opt-out. Elysian client flyer (JobsRUs, 2025). Proof library P-45
  10. Verified Section 105(b): benefits are tax-free only to reimburse real medical expenses. Treasury/DOL/HHS final rule, 89 FR 23338; IRS CCA 202323006. Proof library P-48
  11. Verified CCA 202323006 — the key IRS memo. IRS CCA 202323006. Proof library P-58