By Kelly S. Kuglitsch
As most Wisconsin employers know by now, the Patient Protection and Affordable Care Act (the “ACA”) introduced new nondiscrimination requirements for insured group health plans; however, many employers remain confused about the impact of these rules. The simple answer is that no formal implementation must commence until the administrative agencies charged with enforcing these rules publish guidance on the subject. This client update explores and examines the information currently available with regard to the ACA’s nondiscrimination rules, the continued delay of the insured plan rules, and the implications for insured plan sponsors.
Nondiscrimination Rules
Under the self-insured nondiscrimination rules, self-insured group health plans (which include, but are not limited to, medical reimbursement plans and health reimbursement arrangements), must comply with the nondiscrimination tests found in Internal Revenue Code Section 105(h) (“Section 105(h)”) on an annual basis. Under Section 105(h), a self-insured group health plan satisfies the nondiscrimination rules if the plan does not discriminate in favor of highly compensated individuals (“HCIs”) with respect to plan eligibility or plan benefits. The purpose of the rule is to ensure that employer-provided health benefits are reasonably available to a broad range of employees, instead of just to higher earners.
HCIs are employees who are: (a) one of the five highest paid officers, (b) a shareholder owning more than 10% of the company’s stock, or (c) among the top 25% highest paid employees. Employees with less than three years of service, who are under age 25, who are seasonal, who work less than 35 hours per week, who are non-resident aliens, or who are covered by a collective bargaining agreement, are excluded from the nondiscrimination calculations.
To pass the benefits test, the same benefits must be provided to HCIs and to non-HCI employees. To pass the eligibility test, the benefits provided by the employer must meet one of the following criteria: (a) 70% of all non-excluded employees must benefit of under the plan (b) The plan must benefit 80% of all non-excluded employees and 70% of those employees must actually benefit, or (c) the employees who benefit must be in a classification approved by the IRS.
The New Nondiscrimination Rule Announcement
In enacting the ACA, Congress voiced concern about discrimination with respect to insurance eligibility and benefits in insured plans. To that end, in March 2010, we learned that the ACA would apply rules “similar” to the existing Section 105(h) nondiscrimination rules (already in effect for self-insured plans) to fully insured plans.
Despite the fact that the ACA nondiscrimination rules were supposed to be “similar” to the Section 105(h) rules, the consequences of violating the rules differ considerably for the different plan types:
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- Self-Insured Plans: A violation of the 105(h) rules for self-insured plans causes any highly compensated individual who receives a discriminatory benefit to recognize additional taxable income. The employer faces no penalty.
- Insured Plans:The penalty for insured plan noncompliance would be substantially more punitive, with the entire penalty being imposed on the employer (and no increased taxation on any highly compensated individual or other employee). If discrimination with respect to eligibility or benefits occurs under an insured plan, the employer would be responsible for (1) an excise tax of $100 per day per individual discriminated against (capped at $500,000 per year); and (2) potential application of ERISA civil action provisions (for private-sector plans).
The language of the ACA provides that the nondiscrimination rules apply to insured plans as of the first day of the plan year beginning on or after September 23, 2010. For calendar-year plans, this means that the provisions were scheduled to take effect on January 1, 2011. However, this date of commencement has been delayed.
The IRS Temporary Non-Enforcement Announcement
The ACA charged the IRS, the Department of Labor (“DOL”) and the Department of Health and Human Services (“DHHS”) with the responsibilities of drafting rules “similar” to those used under Section 105(h). In December 2010, the IRS issued Notice 2011-1, which explains that regulatory guidance is “essential to” implementing the insured plan provisions; therefore, compliance “should not be required until after” regulations or other administration guidance has been issued. Thus, the IRS stated explicitly that it would not enforce the ACA nondiscrimination rules and would not impose sanctions on employers and group health plan sponsors for failing to comply with the rules until after a “specified period” following the issuance of the regulations. The DOL and DHHS have also agreed to this delay.
At the same time it delayed the enforcement of the nondiscrimination rules, the IRS also requested public comments (to be submitted by March 11, 2011) on how the future guidance should address thirteen specific issues, including:
- What is a discriminatory benefit (i.e., is a higher percentage of employer contribution or a shorter waiting period a “benefit”?)
- Whether after-tax benefits provided to a “highly compensated individual” should be exempt from the nondiscrimination provisions?
- May the “eligibility” test be based on the annually-indexed “highly compensated employee” income definition (currently $115,000) rather than on the “highly compensated individual” definition?
- Should the eligibility test by applied separately to multiple plans where an employer sponsors multiple plans and/or separate insured plans in distinct geographic locations?
- Should an “availability of coverage” test, instead of an “eligibility” and a “benefits” test, be the only basis upon which discrimination is determined?
While the IRS and the other agencies have not announced when they anticipate finalizing the rules on this topic, it is reasonable to expect that they will take a considerable amount of additional time to do so, given the unusually large number of public comments submitted in response to the Notice.
What to Expect While Awaiting the Next Announcement
IRS representatives have informally indicated that the IRS will continue to observe its practice of providing at least six (6) months’ advance notice of changes. Taken together with the IRS custom of making changes applicable for plan years first beginning on or after a specified effective date, we believe it is likely that many plan sponsors will experience more than six months of transition relief. Until the future guidance becomes effective for a given plan, the IRS non-enforcement policy will remain in place. Indeed, until the IRS issues guidance “essential” to implementation, the nondiscrimination rules will not take effect and will not result in penalties to employers.
In light of the lack of current guidance, there is no definitive way to plan for the application of nondiscrimination rules to fully insured plans. While employers can certainly consider whether current insured health benefits are generally offered in a nondiscriminatory manner (as defined under Section 105(h)), and what changes might be required to make benefits more equitable, formal testing or auditing is not required at this time and may, ultimately, have little relevance to the final nondiscrimination rules. For public sector employers, the possibility that Act 10 may not survive constitutional scrutiny also leaves open the issue of whether compliance with nondiscrimination rules will ultimately be required at all. Therefore, until the IRS provides more information about the rules governing nondiscrimination in insured plans, we do not encourage employers to spend resources to conduct testing under current nondiscrimination rules at this time. Instead, employers may wish to evaluate their benefits in regard to the other ACA provisions for which rules have already been supplied, such as the definition of (and safe harbors relating to) “full-time employees,” and employer shared responsibility (also known as the “pay or play mandate”).
Contact your Davis & Kuelthau, s.c. attorney with any questions regarding nondiscrimination compliance, the legal requirements of the Affordable Care Act, or employee benefit plans.