How Does a Medical Expense Reimbursement Plan Work?

A medical expense reimbursement plan is an employer-funded arrangement that pays employees back, tax-free, for qualifying out-of-pocket healthcare costs. Under IRC §105(b), those reimbursements are excluded from your gross income, and the employer deducts them as an ordinary business expense.¹ Unlike traditional health insurance, the plan is funded entirely by the employer, not by premiums or salary reductions. That combination — tax-free to you, deductible to the employer, and free of Social Security and unemployment tax on both sides — is why these plans exist.²

The tax exclusion covers expenses for you, your spouse, your dependents, and your children under age 27.¹ Separately, IRC §106(a) keeps the employer’s contributions to the plan out of your income before any specific claim is even filed.³ Compared to a raise of the same dollar amount, a reimbursement delivers more usable value because no income or payroll tax comes out of it.

What You Can Get Reimbursed For

The outer boundary of eligible expenses comes from IRS Publication 502, which defines medical care as costs for the diagnosis, treatment, prevention, or mitigation of disease, or costs affecting any structure or function of the body.⁴ In practice, that usually includes:

Deductibles, copayments, and coinsurance you pay out of pocket under your primary health plan.
Prescription drugs and over-the-counter medicine, including menstrual care products.⁵
Dental care such as cleanings, fillings, root canals, crowns, and orthodontics.
Vision care, including eye exams, prescription glasses, and contact lenses.
Durable medical equipment like crutches, blood sugar monitors, and wheelchairs when medically necessary.
Health insurance premiums, but only when reimbursed through a compliant framework — a point covered further down.

Publication 502 sets the ceiling. What actually gets paid comes from your employer’s written plan document. Some employers reimburse only costs applied toward the group insurance deductible. Others cover a broader menu that can include alternative therapies if they meet the IRS definition of medical care. If a category isn’t in your plan document, you can’t claim it, no matter what the general IRS list allows.

How to File a Reimbursement Claim

The paperwork bar is higher than most employees expect. A credit card receipt showing you paid a medical office $200 is not enough. You need an itemized statement from the provider showing the date of service, the provider’s name, a description of the service or product, and the amount charged. If you have primary insurance, you also need the Explanation of Benefits from your insurer, which shows what was billed, what insurance paid, and your remaining balance. The plan administrator uses those documents together to confirm the expense is real, that insurance didn’t already cover it, and that it fits the plan’s eligible categories.

Most employers give you a standard claim form through an internal portal or HR. If a third-party administrator runs the plan, you’ll usually upload scanned copies of your documentation through a secure portal. Once approved, reimbursement typically arrives on the next payroll cycle as a separate tax-free direct deposit. Keep copies of everything you submit. If the IRS ever questions why a reimbursement wasn’t included in your income, that documentation proves the payment was for qualifying medical care under a legitimate plan.

If Your Claim Is Denied

Most reimbursement plans fall under the Employee Retirement Income Security Act, which gives you real appeal rights. A denial notice has to explain the specific reasons and cite the plan provisions behind the decision. You then have at least 180 days from receiving that denial to file a formal appeal.⁶ Missing that window almost always forfeits your ability to challenge the decision either inside the plan or later in court.

On appeal, you can submit additional documentation, written arguments, and comments, and the reviewer has to consider all of it whether or not it was in the original claim. If the appeal is also denied, the plan must tell you about your right to bring a civil action under ERISA. Denials are often based on missing paperwork rather than ineligible expenses. If the administrator didn’t have an itemized receipt or an Explanation of Benefits the first time, sending those in with the appeal is frequently enough to resolve it.

How It Interacts With a Health Savings Account

If you contribute to an HSA through a high-deductible health plan, a general-purpose reimbursement plan creates a problem. Under IRC §223, you’re only eligible to contribute to an HSA if you aren’t covered by another health plan that provides benefits before your HDHP deductible is met, and a plan that reimburses broad medical expenses counts as exactly that kind of disqualifying coverage.⁷

Workarounds exist. A limited-purpose arrangement that only reimburses dental and vision expenses preserves HSA eligibility because it doesn’t overlap with the HDHP. A post-deductible arrangement that only pays out after you’ve met a minimum annual deductible works the same way. You can also elect to suspend the reimbursement plan during periods when you want to make HSA contributions, though no expenses incurred during the suspension will be reimbursable.⁵ If your employer offers both an HSA-compatible HDHP and a reimbursement plan, ask specifically whether the reimbursement plan is limited-purpose. If it isn’t, HSA contributions could be treated as excess contributions subject to a 6 percent penalty tax each year they remain in the account.

The ACA Restriction and the Two Compliant Frameworks

One category of reimbursement plan gets employers into serious trouble: a standalone arrangement that reimburses employees for individual market health insurance premiums without any qualifying group coverage behind it. Since 2014, that structure is treated as a group health plan subject to the Affordable Care Act’s market reforms, and because it has an inherent annual dollar limit and doesn’t provide first-dollar preventive care on its own, it fails those reforms automatically.⁸ The penalty under IRC §4980D is $100 per day for each affected employee, which works out to $36,500 per employee per year.⁹

Traditional reimbursement plans that only pay for out-of-pocket costs applied toward an employer-sponsored group health plan remain compliant because they’re integrated with qualifying group coverage. For employers who want to reimburse individual market premiums or move away from group insurance, Congress created two specific structures that satisfy the ACA.

Individual Coverage HRA

An ICHRA lets employers of any size reimburse employees for individual health insurance premiums and other medical expenses, with no cap on employer contributions. Every participating employee and their covered dependents must actually be enrolled in individual health coverage that meets ACA standards, and the employer cannot offer both a traditional group plan and an ICHRA to the same class of employees.¹⁰

Qualified Small Employer HRA

A QSEHRA is for businesses that aren’t applicable large employers under the ACA — generally fewer than 50 full-time equivalent employees — and that don’t offer any group health plan.¹¹ It must be funded entirely by the employer, with no salary reductions, and offered on the same terms to all eligible employees. Contribution limits are set by the IRS and adjusted annually. For 2026, the maximum reimbursement is $6,450 for self-only coverage and $13,100 for family coverage.¹² A QSEHRA is technically excluded from the definition of “group health plan,” which is how it sidesteps the market reform trap.

The Rule That Affects Highly Compensated Employees

Self-insured reimbursement plans have to satisfy nondiscrimination rules under IRC §105(h). The law sets two tests: the plan cannot favor highly compensated individuals in who’s allowed to participate, and the benefits themselves cannot tilt toward those individuals. To pass the eligibility test, the plan has to cover at least 70 percent of all employees, or at least 80 percent of eligible employees if 70 percent or more are eligible.¹

If the plan fails, the consequence falls on the highly compensated employees rather than the whole workforce. Their reimbursements lose tax-free status and become taxable income. Reimbursements to other employees stay tax-free.¹ If you’re an executive receiving richer benefits than everyone else under the same plan, that’s worth asking about — the surprise at tax time otherwise lands on you.

1
Office of the Law Revision Counsel. 26 USC 105 – Amounts Received Under Accident and Health Plans
2
NABIP Resource Hub. A Guide to MERP Options and Their Tax Benefits and Advantages
3
Office of the Law Revision Counsel. 26 USC 106 – Contributions by Employer to Accident and Health Plans
4
Internal Revenue Service. Publication 502 – Medical and Dental Expenses
5
Internal Revenue Service. Publication 969 – Health Savings Accounts and Other Tax-Favored Health Plans
6
eCFR. 29 CFR 2560.503-1 – Claims Procedure
7
Office of the Law Revision Counsel. 26 USC 223 – Health Savings Accounts
8
Internal Revenue Service. Notice 2013-54 – Application of Market Reform and Other Provisions of the ACA to HRAs, Health FSAs, and Certain Other Employer Healthcare Arrangements
9
Office of the Law Revision Counsel. 26 USC 4980D – Failure to Meet Certain Group Health Plan Requirements
10
eCFR. 26 CFR 54.9802-4 – Special Rule Allowing Integration of Health Reimbursement Arrangements With Individual Health Insurance Coverage
11
Office of the Law Revision Counsel. 26 USC 9831 – General Exceptions
12
Internal Revenue Service. Revenue Procedure 2025-32