MLR Rebates: Guidance for California Employers

Rebates under the Affordable Care Act’s medical loss ratio (MLR) rules are being distributed to California employers in the small group and large group markets as the August 1, 2012 final deadline for rebate distribution arrives.

The MLR rules, set forth in final regulations issued in December 2010, require that insurers in the large group market spend at least 85 cents of every premium dollar either paying claims or on activities that improve health care quality (80 cents for insurers in the small group market), or provide rebates to policy holders.

To date, the following carriers have announced and/or are processing rebates to employers in California, based on failed medical loss ratios in 2011:

Small Group Carriers:

• UnitedHealth Group, Inc.:  $3.5 million distributed to 4,400 employers ($98 average rebate per “subscriber” (covered employee or dependent).
• Anthem Blue Cross:  $38.6 million distributed to 38,175 employers ($119 average rebate per subscriber).

Large Group Carriers:

• Aetna:  $3.4 million distributed to unknown number of businesses ($40.50 average rebate per subscriber).
• CIGNA:  $3.4 million distributed to 456 businesses ($37.70 average rebate per subscriber).
• PacifiCare:  $789,615 distributed to unknown number of businesses ($12.42 average rebate per subscriber).

Although the per-subscriber amounts are small, employers receiving rebate checks have a significant compliance burden.  They must make sure that (a) in compliance with ERISA, they share rebate funds with employees in proportion to the employees’ premium contributions; and (b) they must treat the rebate funds properly for tax purposes, whether the rebates are distributed in cash or used to offset employees’ future premium obligations.

The Department of Labor spelled out employers’ ERISA duties for handling MLR rebates in Technical Release 2011-04.  Note that it describes the 3-month grace period that employers have to distribute employees’ proportionate share of rebate funds, or otherwise use them to employees’ benefit.   After 3 months have elapsed, rebate funds that correspond to employees’ premium contributions must be held in trust, and otherwise maintained in compliance with Title I of ERISA.  The DOL guidance also relieves employers from the obligation to track down former employees who are entitled to rebates, if the cost of locating the former employees approximates the amount that is to be distributed.  In such instances the rebate amounts meant for former employees may be allocated to current participants based upon a “reasonable, fair and objective allocation method.”  In actual fact, carriers may dictate many aspects of how rebates are distributed to employees, including the form that rebates take.  As plan fiduciaries, however, employers remain ultimately responsible for ERISA compliance, and should get legal advice if they are uncertain of how to proceed.

The IRS provides a helpful FAQ on taxation of MLR rebates.  Generally, cash rebates are taxable, W-2 income in the year they are distributed.  Also generally, premium offsets comprise taxable income to the extent they reduce pre-tax premium payments employees otherwise would make through a Section 125 cafeteria plan.

Insurers are required to calculate rebates on a calendar year basis.   In California, Anthem Blue Cross provided spreadsheets to policyholders that automatically calculate the per-employee rebate amount, based on a ratio derived by expressing the total rebate amount as a percentage of the employer’s total premium cost (including employee contributions).  This type of calculation assumes that premium costs are divided between employer and employee on a percentage basis (e.g., 80/20).  Employers that pay a flat dollar amount per employee towards premiums, or require employees to pay a flat dollar amount, may need to calculate their rebate amounts differently.

Note that there are two different “de minimis” rules that apply in this context.  The first applies to insurers.  Specifically, insurers in the group market need not pay a rebate if the combined amount (employer and employee portions) is less than $20.  (A $5 limit applies in the individual market.)  However insurers must aggregate the de minimis amounts and distribute them to other policyholders in the applicable large or small group market.

There is no dollar amount attached to the de minimis rule that applies to employers.  Instead, the DOL Technical Release simply states that, if distributing rebate amounts is not cost-effective, for instance due to de minimis amounts, then the employer may use the rebate for other permissible plan purposes, including toward future premium payments.

Finally, Blue Shield of California has taken a “2% Pledge” that resembles an MLR rebate.   Under the pledge, in years that the carrier earns more than 2% net income, it will return the difference between what it earned and 2% to its customers and the community.  The income is distributed to group policyholders in the form of a 30% credit against one month of premiums.   It is my understanding that Blue Shield of California has taken the position that the credit is not the type of carrier refund or credit that will comprise ERISA plan assets, to the extent employees paid for premiums.  This discussion addresses this issue, and Blue Shield’s likely reasoning on the point, in some detail.    I advise reading it in full and also, as it recommends, reviewing your health plan documentation to determine whether or not it contains any promises to share such payments with participants.  Although the MLR rebate regime is fairly new, policyholder rebates, refunds and other carrier payments have always been around, and existing plan language of this type arguably could dictate how you handle MLR rebate amounts.