On March 29, 2011 the IRS released Notice 2011-28 which contains guidance, in question-and-answer format, on W-2 reporting of the cost of health care coverage, a requirement of PPACA. This reporting requirement – often mistaken for a tax on health care costs – was originally required for Form W-2s for 2011 issued to employees and SSA in early 2012. In an earlier Notice the IRS postponed the reporting requirement until 2012 W-2s issued in early 2013. Now, Notice 2011-28 postpones the reporting duty yet another year – and until further guidance issues – for employers that in 2011 issue fewer than 250 Forms W-2 (this is also the threshold for mandatory electronic reporting).

Again – if your company issues fewer than 250 Forms W-2 for 2011 – i.e., the forms that you send to employees and SSA in early 2012 – then in 2012 your company is relieved from tracking and reporting the value of group health care coverage on Forms W-2.

For employers that will have to report the value of health coverage for 2012 Forms W-2 the Notice contains helpful information on a number of points:

1) With regard to reporting the cost of health coverage in a year in which an employee terminates employment, the employer can either report the cost of COBRA coverage for the balance of the months of the year, or report only on months in which the employee actively was employed. The employer must use one or the other reporting method for all terminating employees.

2) If terminated employee requests a copy of his or her Form W-2 before the end of the year, the employer is not required to report any amount in box 12, designated for the cost of coverage.

3) When an employee transitions employment in the course of a year, either the predecessor or successor employer may each report the cost of coverage for the period the employee worked for them, or the successor employer can report the cost for the whole year pursuant to a procedure set forth in Revenue Procedure 2004-53. Employers that undergo a change in control transaction should flag this issue for negotiation along with COBRA duties and related payroll issues.

4) The amount that must be tracked and reported is the “aggregate cost of applicable employer-sponsored coverage.” “Applicable employer-sponsored coverage” means coverage under any group health plan that is excludible from an employee’s gross income under IRC Section 106, with the exception of: (a) coverage for long-term care; (b) coverage for on-site medical clinics; (c) coverage under separate dental or vision insurance (unbundled from group health); or (c) individual hospital indemnity or disease-specific coverage.

5) The aggregate cost of coverage includes the employer and the employee portion, whether or not the employee paid for the coverage on pre-tax basis under a cafeteria plan. The aggregate cost also includes the cost of coverage provided to over-age dependents (older than age 26 – some states mandate coverage past this age) – even when the cost of this coverage is added to employees’ taxable wages.

6) Amounts excluded from the aggregate cost of coverage include (a) contributions to an Archer MSA, (b) contributions to HSAs, and (c) salary reduction elections under a health flexible spending arrangement (“FSA”). When a health FSA is offered under a Section 125 cafeteria plan, the amount the employer must include in the aggregate reportable cost of coverage on Form W-2 is the amount of the employee’s salary reduction for all qualified benefits – not just the health FSA, plus the amount of any employer flex credits or contributions that the employee elects to apply to the health FSA. If the employee’s total salary reduction for all flex benefits equals or exceeds that amount of the health FSA for a given year, the employer does not include the amount of the health FSA for that employee for that year. Examples in the Notice under Q&A 19 spell this out in more detail.

7) An employer may choose from among several methods of calculating the reportable cost under a plan: (a) using the COBRA premium cost to the employee; (b) using the premiums charged for the employee’s coverage; (c) using a modified COBRA premium (where the employer subsidizes COBRA premiums or bases them on premiums calculated in a prior year. In addition, employers using one or more composite rates can use those rates to calculate the cost of coverage for reporting purposes.

8 ) Employers must track changes to the cost of coverage occuring during the year, for reporting purposes. This will occur when an insured health plan is on a fiscal year renewal cycle or when a self-funded plan uses the COBRA premium method and the 12-month period used to determine the COBRA applicable premium is not the calendar year.

9) Employers must track changes to the cost of coverage occuring when an employee commences, changes, or terminates coverage, for instance when an employee who switches from individual to individual plus spouse coverage in the middle of the year.

10) The reportable cost of coverage must always be determined on a calendar year basis; this will be an issue for employers whose health plans use a fiscal year.

The IRS requests public comments on a number of points including on challenges employers may face in implementing reporting of coverage costs on the 2012 Forms W-2, as well as issues raised by applying the reporting requirement to employers filing fewer than 250 Forms W-2 in a year. This may suggest that the IRS is evaluating a permanent reporting waiver for this group; hopefully this will be addressed in future guidance.

Updated April 5, 2011
The California Senate voted unanimously on March 24, 2011 to approve California Assembly Bill 36, which would bring California income and employment tax laws into conformity with federal tax law regarding group health coverage provided to dependents up to age 26. This vote was the last step in the legislative process before the bill goes to Governor Brown for signature.

Because AB 36 offers retroactive relief from having to track imputed state income for employees with overage dependents, employers will need to look to the Employment Development Department for guidance on amending information reported for 2010 on Forms DE 6 and DE 7, the quarterly wage and withholding report, and annual reconciliation report, respectively. Adjustments to either form filed in 2010 are made on form DE 678.

For 2011, however, DE 6 and DE 7 are replaced with form DE 9 (Quarterly Contribution Return and Report of Wages) and DE 9C (Quarterly Contribution Return and Report of Wages (Continuation)). Those new forms are amended by filing new EDD form DE 9ADI (Quarterly Contribution and Wage Adjustment Form). Per a contact at the EDD, after final passage of AB 36 they will study the measure and advise on corrective reporting steps; so the above instructions may change. To correct employee wage statements, employees will need to file Form 540X with the Franchise Tax Board.

The Republican co-sponsor of H.R. 1004, the Medical FSA Improvement Act, is Representative Charles Boustany (R. La.), a retired heart surgeon. He is one of 19 Representatives who are doctors or nurses by profession. Four Senators have medical training, including Rand Paul of Kentucky. This blog post summarizes the backgrounds of some of the Republican medical professionals in Congress in 2011, and states their respective positions on PPACA. Whether through party affiliation, as a result of lessons learned in the healthcare trenches, or both, none of those surveyed support PPACA outright. Common themes are opposition to more government involvement in healthcare, support for laws permitting the purchase of insurance across state lines, expanded access to and use of Health Savings Accounts, tort reform, and support of small business pooling to increase insurance purchasing power. Former medical professionals on Capitol Hill who do support PPACA include former nurse Rep. Lois Capps, representing California’s 23rd District (including Santa Barbara) and Rep. Jim McDermott (D. Wa.), a psychiatrist.

On March 3, 2011 U.S. District Judge Roger Vinson stayed his January 31 ruling that the entirety of PPACA was unconstitutional as a result of the individual mandate provision. In that earlier ruling the Judge held the individual mandate provision to violate the Commerce Clause of the U.S. Constitution, and also to be so intertwined with the rest of PPACA that the law as a whole could not stand. The stay will be in effect while an appeal is pending, however Judge Vinson gave the Justice Department only until March 10 to file its appeal and also required that it seek expedited review on appeal, either to the 11th Circuit or the Supreme Court. It is likely the Justice Department will appeal to the lower court given its apparent strategy to let the court challenges to PPACA proceed in their normal course (thereby possibly avoiding a Supreme Court decision in 2012 that could impact the presidential election).

What this means for the time being is that states and the federal government can continue to implement PPACA, which at this stage has nothing to do with the individual mandate but instead takes the form of popular measures such as extensions of coverage to overage dependents. This should help resolve confusion that could exist in states, such as Alaska, that vowed to stop implementing PPACA as a result of the January 31 ruling. Other than in Alaska this was largely a symbolic stance; a number of anti-PPACA states sought federal funding for implementation of the state exchanges that Alaska declined. (Alaska’s governor announced that the state will treat PPACA as being in place as a result of the ruling.) Clearly, also, the government agencies charged with implementing PPACA continued their activities notwithstanding the unconstitutionality ruling.

The question of whether or not that ruling acted as a true injunction against implementation of PPACA, or simply an official statement of disapproval, is addressed in the new ruling at some length. Judge Vinson expressed surprise that the Justice Department waited several weeks to file a request for “clarification” of the earlier ruling rather than immediately seeking a stay of its enforcement, given that his ruling made quite clear that it was meant to serve as the “‘functional equivalent of an injunction'” against enforcing a law the Judge had decreed to be “‘void.'”

Amidst this lecture of sorts, Judge Vinson acknowledged that “[i]t would be extremely disruptive and cause significant uncertainty” to enjoin enforcement of PPACA pending appeal. It is fortunate that Judge Vinson saw fit to recognize that and rule as he did, given his wholesale rejection of PPACA just five weeks ago. Which raises the possibility that the delayed timing of the Justice Department’s request for “clarification” of the order was in part strategic. From the balance of the Judge’s opinion, it would seem that a direct request to stay his order made in the immediate aftermath of the January 31 ruling would have had little likelihood of success.

President Obama for the first time today backed a truly substantive change to PPACA by endorsing a bipartisan bill that allows states to obtain waivers from PPACA requirements – including the individual mandate – starting January 1, 2014. This is as soon as the requirements were to go into effect, and three years earlier than originally was possible under PPACA.

In a speech to the National Governor’s Association at the White House, President Obama endorsed Senate Bill 248, the “Empowering States to Innovate Act.” The bill, now sponsored by Senators Ron Wyden (D-Ore.), Mary Landrieu (D-La.) and Scott Brown (R-Mass.), initially was proposed by Senators Wyden and Brown in November 2010, and amends PPACA Section 1332. That provision, titled “Waiver for State Innovation,” allows states to seek waivers starting January 1, 2017 from certain aspects of PPACA compliance including: 1) state exchanges and the prerequisites for “qualified health plans” that may be offered through an exchange; 2) employer “pay-or-play” provisions; 3) cost-sharing reductions and tax credits for exchange participants; and 4) the individual mandate.

A waiver, if granted, may last for up to 5 years, subject to extension by the Secretary of HHS. In order to qualify for a waiver, a state must design an alternative health care reform program and demonstrate that it will do all of the following: 1) provide coverage that is at least as comprehensive as that which would be offered under the PPACA exchanges and is at least as affordable; 2) cover a comparable number of residents as would qualify under the PPACA exchanges, and 3) not add to the Federal deficit.

The President called the bill a “reasonable proposal” that provides flexibility while still guaranteeing reform (in the form of the “equivalency” demonstrations that states must make in order to obtain a waiver), and openly invited states to pursue self-help methods of reform.

Punting significant reform components to the states in this fashion is an interesting strategic development as it could defuse, for instance, the federal court challenges to the individual mandate, as well as some aspects of general Republican opposition to federal reform. As one commentor notes, however, many states are more concerned about subsidizing the costs of Medicaid expansion under the PPACA than they are about implementing the exchanges. The same commentator notes that other states, such as Vermont, could use the waiver as an opportunity to put single-payer systems in place. Ultimately, if SB 248 is enacted as an amendment to PPACA, health care reform in 2014 and beyond may be less a federal phenomenon than a state-by-state experiment.