The Internal Revenue Service has tried to make life easier for merchants that want to help customers use flexible spending accounts and health reimbursement arrangement funds.

At least temporarily, supermarkets and other retail stores with pharmacy sections and pharmacies that sell large amounts of merchandise other than health care products can accept health account debit cards, IRS officials write in IRS Notice 2007-2, “Section 105.-Amounts Received Under Accident and Health Plans.”

The IRS sparked an outcry earlier this year when it issued Notice 2006-69, a batch of advice that suggested general-purpose retailers with pharmacy sections might not be able to accept health account debit cards.

The earlier notice indicated that customers might have to provide extra substantiation for purchasers of health account-qualified products, such as bandages and vitamin pills, at stores with non-health care-related debit card merchant category codes.

The notice roiled the young, competitive health account card industry.

Congress and regulators have been vague about what consumers have to do to show that health savings account assets are going to cover qualified expenditures, but employers that sponsors FSAs and HRAs must follow detailed procedures to make sure that holders of those accounts can substantiate they have spent account funds on qualified products and services, rather than on products such as beer and pretzels.

Health account program sponsors must use a “pay and chase” program to chase after health account holders who use account assets to buy products that turn out not to be health care products or fail to provide proper substantiation for their purchases, IRS officials note in the new guidance.

In a 2003 revenue ruling, the IRS describes a debit card that can be used to purchase goods and services only from “physicians, pharmacies, dentists, vision care offices, hospitals, and other medical care providers.”

Although the first 2006 ruling did describe an inventory information approval system that could be used by merchants with non-health care related merchant category codes for substantiating employees’ claimed medical expenses, “it has been determined that transition relief is warranted for a limited period, in order for these non-health care merchants to implement the inventory information approval system,” officials write.

General-purpose stores with pharmacies and no health care merchant category code can keep accepting health account debit cards using their current systems up until Dec. 31, 2007, and then must adopt inventory information approval systems, officials write.

Employers must get receipts or other documentation to substantiate all debit card charges incurred in 2007.

Pharmacies that sell large amounts of non-health care products must adopt inventory information approval systems by Dec. 31, 2008, unless a store gets at least 90% of its gross receipts by selling items that qualify for FSA and HRA reimbursement, officials write.

A copy of the latest guidance is on the Web at Document Link