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New Cafeteria Plan Guidance Eases Transitions to Exchange Coverage

IRS Notice 2014-55, issued September 18, 2014, permits two new types of mid-year changes in cafeteria plan elections (other than health flexible spending account elections) that will enable employees to drop employer group coverage in favor of individual coverage offered on state and federally-facilitated health exchanges (collectively, “the Exchange.”)  Making that transition primarily will appeal to employees with household incomes in ranges that qualify them for financial assistance on the Exchange, in the form of premium tax credits and cost sharing.  Those ranges are between 100% and 400% of federal poverty level in states that have not expanded Medicaid, and between 138% and 400% of federal poverty level in states that have expanded Medicare.

Recap of Existing Change in Status Rules

Under existing cafeteria plan regulations, a participant may make a mid-year change in their plan elections only in the event of a “change in status,” and only to the extent that the election change is both “on account of” and “corresponds with” the change in status.  This latter requirement is referred to as the “consistency rule.”  An example of a change in election that satisfies the consistency rule is removing a spouse from coverage as a result of a change in status that is a legal separation or divorce.  By contrast, the participant dropping his or her own coverage in that situation would not satisfy the consistency rule.

Existing regulations set forth a finite list of changes in status that trigger the right to a mid-year cafeteria plan election.  The list does not currently include a change in employment status – such as a transition from full-time to part-time status – that is not accompanied by a loss of group health plan eligibility. In addition, under special enrollment rights that were introduced with HIPAA, employees may enroll in their employer’s plan in the event they lose other coverage (for instance, through exhausting COBRA coverage), may add to their coverage a dependent newly acquired through birth, marriage, or adoption, and may make mid-year cafeteria plan changes that are consistent with these events.  HIPAA’s special enrollment rights do not contain provisions that relate to availability of individual coverage on the Exchange.

Please note that references below to “changing cafeteria plan elections” may more accurately be described as revoking an election to make pre-tax salary deferral elections towards the purchase of group health premiums.

Notice 2014-55

Effective immediately, although at the option of employers, Notice 2014-55 permits mid-year cafeteria plan election changes in two different situations that are related to Exchange coverage.

The first situation applies when an employee who has been classified as full-time for ACA coverage purposes (averaging 30 or more hours of service per week) has a change in status which is reasonably expected to result in the employee averaging below full-time hours, without resulting in a loss of their group health coverage.  Under the look-back measurement method, as set forth in final employer shared responsibility regulations, an employee who averages full-time hours during an initial (following hire) or standard (ongoing) look-back measurement period generally will be offered coverage for the entire related initial or standard stability period (and associated administrative period) without regard to the actual hours worked during the stability period, such that a schedule reduction would not impact coverage.

Now, under Notice 2014-55, full-time employees whose average weekly hours are “reasonably expected” to remain below 30 – and whose reduced earnings may now qualify them for premium assistance on an Exchange, or increased assistance –  may revoke group coverage for themselves and covered dependents, provided it is for the purpose of enrolling in Exchange coverage or other “minimum essential coverage” that will take effect no later than the first day of the second month following the revocation.   (Minimum essential coverage is not limited to exchange coverage and may, for instance, include group health coverage offered by a spouse’s employer.)  Employers may rely on employee’ representations regarding the purpose of the election change.  Changes to health FSA elections are not permitted in this situation.

The second situation has two variations.  The first applies when an employee has special Exchange enrollment rights, including as a result of marriage, birth or adoption.  Similar to HIPAA special enrollment rights, these permit purchase of Exchange coverage outside of Exchange open enrollment. The second applies under a non-calendar year cafeteria plan when an employee wants to enroll in Exchange coverage during the Exchange open enrollment period, effective as of the first of the following calendar year.

In either instance an employee may prospectively revoke group health coverage for him or herself and family members, provided it is for the purpose of enrolling in Exchange coverage that will take effect no later than the day immediately following the last day of the original coverage that is revoked.  Employers may rely on employee’ representations regarding the purpose of the election change.  Changes to health FSA elections are not permitted in this situation.

Plan Amendments and Effective Dates

The IRS intends to amend cafeteria plan regulations to reflect the guidance in Notice 2014-55.  Employers may rely on the terms of the Notice until new regulations issue.

Employers who want to incorporate the new election changes into their cafeteria plans must amend their plan documents in order to do so.   Employers who put the changes into effect between now and the end of 2014 may amend their plan documents any time on or before the last day of their 2015 plan year (December 31, 2015 for a calendar year plan).  The amendment may be retroactive to the date the change went into effect, provided that participants are informed of the amendment and provided that, in the interim, the employer operates its plan in accordance with Notice 2014-55, or with subsequent issued guidance.

Employer Shared Responsibility Considerations

As mentioned, the first permitted change primarily relates to applicable large employers who use the look-back measurement period to identify full-time employees.  To minimize “pay or play” liability, these employers should continue to monitor, over subsequent measurement periods, the average hours worked by employees who migrate to Exchange coverage, and offer affordable, minimum value coverage over corresponding stability periods to those whose hours average 30 or more per week, or 130 or more per month.

Interestingly, this portion of Notice 2014-55 refers to individuals who were “reasonably expected” to average 30 or more hours of service prior to the change, but who are “reasonably expected” to average below that after the change.  This “reasonably expected” language  – which implies a measure of employer discretion – appears in the final shared responsibility regulations only in connection with assessment of an employee’s likely status (full-time, part-time, seasonable or variable hour) upon initial hire.   After an employee has remained employed throughout an entire standard stability period (which generally corresponds to the plan or policy year), he or she is an “ongoing employee” and his or her status as full-time or not full-time is determined solely based on average hours worked over the preceding look-back measurement method, or, under the “monthly” measurement period, over the preceding calendar month.  In other words, employer discretion is removed from the ongoing measurement process.  Now, it is reintroduced by Notice 2014-55 in the limited context of a schedule reduction during a stability period.

If the second permitted change is adopted by an applicable large employer, presumably that employer will continue to monitor employees who have migrated to the Exchange using the measurement method under which the employee previously qualified for an offer of group health coverage.

Unpacking the 1-Year Pay or Play Delay for Limited Workforce Employers

Most readers of this blog are aware that that the Internal Revenue Service and Treasury Department postponed the compliance deadline under the ACA’s employer shared responsibility rules from January 1, 2014 to January 1, 2015, via IRS Notice 2013-45. This was an across-the-board, 1-year extension under which no penalties under Internal Revenue Code (“Code”) Sections 4980H(a) or (b) would be imposed during 2014 on applicable large employers (“ALEs”) who failed to offer affordable, minimum value or higher group health coverage to its full-time employees, meaning those working 30 or more hours per week.

Many of you are also aware that the final employer shared responsibility regulations published in February of this year included an additional one-year extension – to 2016 – for ALEs with between 50 and 99 full-time employees, including full-time equivalents (referred to herein as the “limited workforce” extension). The limited workforce extension is also described in Questions 34 through 37 of a recently-posted IRS FAQ on employer shared responsibility provisions.

This second 1-year extension is not “across the board” like the earlier one; the limited workforce requirement is just one of several distinct requirements that ALEs must satisfy, before they can qualify for the transition relief. This post breaks down the requirements into their component parts:

Limited Workforce Size
To be eligible for the 1-year extension for 2015 an ALE must employ on average, on business days during the 2014 measurement period, at least 50 full-time employees, but fewer than 100 full-time employees, including, in either instance, full-time equivalents. This headcount must take into account full-time employees and full-time equivalent employees of separate businesses related by ownership to the ALE (controlled group rules). However, the ALE may make use of the seasonal worker exception in the headcount process, such that the additional 1-year extension would apply if the ALE employs more than 99 full-time employees, including full-time equivalents, for 120 days or fewer during a calendar year, and the employees over the 99 employee headcount are seasonal workers. Note that the seasonal worker exception is only available if employee hours are averaged over all 12 months of a calendar year. For simply determining employees’ full-time status for the 2015 plan year, transition relief in the final regulations permit the 2014 measurement period to be the entire calendar year, or a period of no less than six consecutive months in 2014, starting no later than July 1, 2014 and ending no earlier than 90 days before the first day of the plan year beginning on or after January 1, 2015. Like the seasonal worker exception, the shortened measurement period may be used in connection with the 1-year extension for limited workforce employers.

Maintenance of Workforce and Aggregate Hours of Service
For the period beginning on February 9, 2014 through December 31, 2014, the ALE must not reduce the size of its workforce, or reduce the overall hours of service of its employees, in order to satisfy the limited workforce criterion. Reductions in workforce or schedules that are for “bona fide business reasons” are permitted, however. Examples given in the preamble to the final regulations include reduction in workforce size or aggregate hours because of business activity such as the sale of a division, changes in the economic marketplace in which the employer operates, terminations of employment for poor performance, or other similar changes unrelated to the extension criteria.

Maintenance of Previously Offered Health Coverage
The third requirement for the extension is that, during the applicable “coverage maintenance period” the ALE does not eliminate or materially reduce group health coverage that was in place as of February 9, 2014, which is the day before the final regulations were released to the public. The restrictions here are similar to those that apply to plans that are grandfathered under the ACA and generally apply to employee-only coverage. Specifically, the ALE must not reduce the dollar amount of the employer contribution towards employee-only coverage by more than 5% , it must maintain or increase the employer percentage towards such coverage in place as of February 9, 2014, it must not allow benefits to drop below “minimum value” or “bronze” level, and it may not narrow or reduce the class or classes of employees (or employees’ dependents) who were offered coverage as of February 9, 2014. The coverage maintenance period or “CMP” over which the ALE must continue to meet these conditions is, for plans following a calendar year cycle, the period from February 9, 2014, through December 31, 2015. For non-calendar year plans, the CMP is the period from February 9, 2014 through the last day of the plan year that begins in 2015.

Certification by Applicable Large Employer
ALEs that qualify for the limited workforce exception do not have pay or play duties in 2015 but must nonetheless comply with ALE reporting duties under Code Section 6056 that go into effect for 2015, with initial reporting due in early 2016. For this initial reporting year ALEs must certify that they met the requirements for the additional 1-year delay. Certification will be made on IRS Form 1094-C (not yet released by the IRS).

Stacking Transition Relief under the Final Employer Shared Responsibility Regulations

As we have recounted on this blog, employer shared responsibility rules under the Affordable Care Act originally were meant to go into effect on January 1, 2014, but have been put on hold two times.  The first time was in early July 2013 pursuant to IRS and White House bulletins later set forth more formally in IRS Notice 2013-45, and the stated purpose was to allow carriers and employers more time to understand and prepare for minimum essential coverage (MEC) and applicable large employer (ALE) reporting duties otherwise slated to begin in 2014.

The IRS Notice simply provided that both the employer shared responsibility provisions for applicable large employers (and information reporting related to same) would not apply in 2014 but would be “fully effective for 2015.”  It was silent on transition guidance contained in proposed regulations issued in December 2012, and thus left employers who had planned to rely on the transition guidance (including delayed start dates for non-calendar year plans) in temporary limbo.

This limbo period ended with the release of the final employer shared responsibility regulations (“Final Regulations”), which were published in the Federal Register on February 12, 2014.  The Final Regulations carry forward the transition relief set forth in the proposed regulations and expand on it in several ways.  This post summarizes the transition relief and explains some ways in which applicable large employers can “stack” the relief by using more than one type of transition relief at a time.  As with all my posts, this is for readers’ general information and is not intended to be relied upon in any specific factual setting.

By way of introduction I am going to assume that readers are familiar with basic definitions under the ACA including “applicable large employer” or “ALE,” full-time employee,” and “full-time equivalent or FTE”.  I am also going to assume reader familiarity with “assessable payments” under Internal Revenue Code (“Code”) Section 4980H(a) and (b).  Readers who are not familiar with those terms and rules can find definitions in this helpful IRS Frequently Asked Questions list, or by searching in my blog.

Additional Delay to 2016 for Mid-Sized Applicable Large Employers

The final regulations describe an additional year’s transition relief – from 2015 to 2016 – for mid-sized applicable large employers – those who average between 50 and 99 full-time employees, including FTEs, over their chosen 2014 measurement period.  The transition relief applies to both the 4980H(a) and (b) penalties.  For the enforcement delay to apply, an ALE must meet the full-time employee size requirement and each of the following additional requirements:

  • They must not modify their plan year after February 9, 2014 to start at a later date.
  • They must also make two written certifications as part of their ALE reporting due in early 2016.  Specifically they must certify that:
    • between February 9, 2014 and December 31, 2015 they have not reduced the size of their workforce or overall hours of service other than for “bona fide” business reasons, which include sale of a division, changes in the economic marketplace in which the employer operates, or terminations for poor performance.
    • they did not “eliminate or materially reduce” group health coverage that was in place on February 9, 2014 over the “coverage maintenance period” which ends December 31, 2015 for calendar year plans, and on the last day of the 2015-2016 plan year for non-calendar year plans.  “Material” reduction means a 5% or greater reduction in the dollar amount of the employer contribution towards individual premiums, or any reduction in the percentage of the employer’s share.

Mid-sized employers that qualify for the relief and meet the necessary criteria will not be subject to employer shared responsibility taxes until January 1, 2016, or the first day of their non-calendar plan year beginning in 2016.

New Transition Relief re: Application and Calculation of 40980H(a) Penalty

In 2015, employers who on average employ 50 or more full-time employees, including FTEs, over their chosen 2014 measurement period will not be subject to the “no coverage” pay or play penalty (IRC § 4980H(a)) if they offer minimum essential coverage to at least 70% of their full-time employees.  The offer of coverage includes dependents, subject to transition relief outlined below.  The permitted percentage of excluded full-time employees (30%) shrinks back down to the “greater of 5% or 5 employees” in 2016 and subsequent; i.e. MEC must be offered to at least 95% of full-time employees.

This relief only applies to the (a) penalty.  Further, if the 4980H(a) tax does apply in 2015 (because the employer fails to offer MEC to at least 70% of full-time employees), and the ALE has 100 or more full-time employees, including FTEs, over their chosen 2014 measurement period, the employer may calculate the (a) tax after excluding the first 80 full-time employees.  The excluded group shrinks back town to 30 in 2016 and subsequent.

Note that the IRC § 4980H(b) “some coverage” penalty will still apply if the coverage that is offered to at least 70% of full-time employees is either unaffordable or less than minimum value.   However, the (b) penalty can never exceed what the (a) penalty would have been, had no coverage been offered.

This relief applies to the 2015 calendar year and to non-calendar year plans for their 2015-2016 plan year.

Non-Calendar Year Transition Relief

The proposed regulations provided that ALEs that maintained a non-calendar year group health plan as of December 27, 2012 (just prior to release of the advance copy of the proposed regulations) would not be subject to employer shared responsibility penalty taxes between the original employer shared responsibility start date of January 1, 2014 and the beginning of their 2014-2015 non-calendar year plan, provided that certain conditions were met.  So, for instance, an employer that maintained a July 1 – June 30 plan as of December 27, 2012 would not be subject to excise taxes for failing to offer its full-time employees affordable, minimum value coverage between January 1, 2014, and June 30, 2014.  It would be subject to them for July 1, 2014 onward.

The non-calendar plan year transition relief offered under the proposed regulations has been extended to prevent application of penalties from January 1, 2015 to the first day of the 2015-2016 non-calendar plan year for certain qualifying applicable large employers.  The relief is only available if the employer maintained a non-calendar plan year as of December 27, 2012 and since that time has not changed the plan year to start as a later date.

This is not “across the board” transition relief for all employers with non-calendar plans.  Instead, it only applies with respect to full-time employees who would have joined the plan as of the first day of the 2015-2016 non-calendar year plan, or in instances where, prior to issuance of the regulations, a non-calendar year plan already covered a substantial percentage of its employees.   The specifics of these relief provisions are as follows:

  • Under “Eligible Employee” Relief, no pay or play penalty will be imposed with regard to full-time employees who, under plan rules that were in place on February 9, 2014, will be eligible on the first day of the 2015-2016 plan year.
  • Under “Substantial Percentage” Relief, no pay or play penalty will be imposed with regard to any full-time employees (whether or not they would become eligible in 2015 under current plan terms) if the employer:
    • actually covered at least 25% of its total employees under one or more non-calendar year plans as of any date during the 12 months ending February 9, 2014; or
    • offered coverage to at least 33.33% of its total employees during the most recent open enrollment period prior to February 9, 2014.

This transition relief is adapted from relief set forth in the preamble to the proposed shared responsibility regulations.  The final regulations add a variation on the theme of the “Substantial Percentage” Relief, measured only with regard to full-time employees, as follows:

  • No pay or play penalty will be imposed with regard to any full-time employees (whether or not they would become eligible in 2015 under current plan terms) if the employer:
    • actually covered at least 33.33% of its full-time employees under one or more non-calendar year plans as of any date during the 12 months ending February 9, 2014; or
    • offered coverage to at least half (50%) of its full-time employees during the most recent open enrollment period prior to February 9, 2014.

Non-calendar plan year transition relief is not available with regard to full-time employees eligible under a calendar year plan maintained by the same employer.

Other Transition Relief

Definition of ALE Status and Full-Time Employee Count

For the 2015 calendar year, an employer may measure its status as an ALE (and its full-time employee headcount) by counting full-time employees and FTEs over a period of at least 6 consecutive months in 2014, starting no later than July 1, 2014.  However, if the ALE is relying on the seasonal worker exception to ALE status, it must measure full-time and FTEs over all of 2014, not the shorter six-month period.  For 2016 and subsequent, ALE measurement and full-time employee headcounts must occur over an entire 12 month period.

Transitional Measurement Period

The proposed and final employer shared responsibility regulations contain special rules applicable to seasonal employees and “variable hour” employees, meaning employees who the employer cannot, at the time of hire, accurately class as full-time or part-time.  These rules are primarily of use in the retail and hospitality sectors.  They allow an ALE to measure a new employee’s working hours over a retroactive measurement period, and, based on hours worked during that time, lock in the employee as eligible or ineligible for group health coverage for a subsequent “stability period,” regardless of the hours he or she works during the stability period.

The rules generally do not allow a lock-in stability period to be significantly longer than the retroactive measurement period it is teamed with.  However, just for purposes of stability periods beginning in 2015, employers may adopt a transitional measurement period (“TMP”) in 2014 that is shorter than a year, but at least 6 consecutive months long, and still use a 12 month stability period in 2015.  Because the same rules require that there be a period of at least 90 days between the end of the TMP and the beginning of the stability period, employers who want the 2015 calendar year to serve as a stability period should begin their TMP no later than April 1, 2014.  (April 1 – September 30 TMP followed by October 1 – December 31 transition period, with stability period beginning January 1, 2015).  The TMP applies only to employees who were employed as of its start date.  Full-time status of art-time, variable hour and seasonal employees hired during the TMP will be measured over an initial measurement period of between 3 and 12 months.

Transition Relief re: First Payroll Period in 2015

Solely for January 2015, the final regulations provide that no pay or play penalty will apply between January 1, 2015 and the first day of the first payroll period in January 2015.  This will allow employers to start group health coverage on a payroll period cycle.  No comparable relief is offered for non-calendar year plans.

Transition Relief re: Dependent Coverage

Generally to avoid pay or play penalties, an ALE must offer coverage to a full-time employee’s dependents, although, unlike individual coverage, the dependent coverage on offer does not need to be “affordable.”  Extending earlier transition relief in the proposed regulations, the final regulations provide that an ALE that currently does not offer dependent coverage but that “takes steps” towards offering such coverage during its 2015 plan year will not be assessed a penalty related to dependent coverage.  This transition relief will not apply to the extent that employers offered dependent coverage either during the 2013 or 2014 plan year; in other words an ALE may not use the transition relief if it formerly offered, than terminated, dependent coverage.  As defined above, “dependents” for this purpose mean biological or adopted children to age 26.

Stacking Transitional Relief

The preamble to the final regulations specifically state that applicable large employers can combine or, as described here, “stack” different types of transitional relief under certain circumstances.   Note that ALEs who qualify for the mid-sized employer transition guidance, and who therefore have no pay or play responsibilities in 2015, will not need and cannot use transition relief for non-calendar year plans, or any of the “Other Transitional Relief” described above with the exception of the first listed – counting full-time employees over a period of at least 6 consecutive months.  This is described in example 2, below.  Non-calendar plan year relief may also apply.

The following examples illustrate potential stacking techniques:

  • Non-Calendar Year and 100+ ALE Relief

A graphic design firm with 100 full-time employees (including FTEs) has had an April 1- March 31 non-calendar plan year since December 27, 2012 and has not changed plan years to delay the starting date.

The firm offered coverage to 50% of its full-time employees between February 9, 2013 – February 9, 2014 so it qualifies for non-calendar year transition relief and will not be subject to a pay or play penalty from January 1, 2015 through March 31, 2015.

In addition, for the April 1, 2015 through March 31, 2016 plan year, the firm will not be subject to the “no coverage” penalty so long as it covers at least 70% of its full-time employees.  Penalties could still apply if the offered coverage is unaffordable or does not provide minimum value.

  • Mid-Sized Employer and ALE Measurement/Full-Time Headcount Relief

A company with three bakery locations has about 75 employees in total.  It believes it might qualify for the shared responsibility transition relief available in 2015 to mid-sized employers.  To determine its status as an applicable large employer, it counts full-time and full-time equivalent employees over a six-month period in 2014 (May to October).  During that time it averages 60 full-time employees, including full-time equivalents, per month.  Thus it is an ALE and eligible for the mid-sized employer transition relief. Between February 9, 2014 and December 31, 2014, the end of its plan year, it does not reduce its workforce other than for terminations due to poor performance and does not reduce employees’ overall hours of service.  Also during that time, it maintains group health coverage on the same terms that were in place as of February 9, 2014.   The bakery company will be exempt from assessable payments for the 2015 calendar year.  It must make attestations related to workforce and coverage maintenance, in its ALE reporting due early in 2016.

  • Mid-Sized Employer and Seasonal Worker Exception.

Same facts as above, but the employer is a vineyard with a single location.  It has a seasonal work flow so counts its full-time employees and FTEs over each month of 2014.  It finds that it exceeded 50 full-time employees, including FTEs, on fewer than 120 days in 2014 (mainly during harvest time) and, during that time, the employees that exceeded the 50 full-time limit were seasonal workers (harvesters).  The employer is not an ALE for 2015 and does not need the transitional relief for mid-sized employers.

  • 100+ ALE Relief and Dependent Coverage Relief

Same facts as the graphic designer example except the employer has a calendar year plan.  The firm offers coverage in 2015 to 75% of its full-time employees and the coverage is affordable and provides minimum value.  Therefore assessable payments would be due only with regard to dependent coverage.  The employer takes steps towards 2015 to provide dependent coverage, and did not earlier provide, then stop, dependent coverage.  The employer will not be subject to assessable payments in 2015.

IRS Details Benefit Parity for Same-Sex Spouses

In U.S. v. Windsor, the Supreme Court struck down Section 3 of the Defense of Marriage Act as a violation of the 5th Amendment’s guarantee of equal protection under the law.  Section 3 defined “marriage” and “spouse” for purposes of Federal law as limited to a legal union between one man and one woman as husband and wife.  Elimination of this standard impacts a multitude of Federal laws, and guidance from a number of Federal agencies will be needed before the ruling fully is integrated into the U.S. Code.

Some of the first of that guidance explains Federal tax treatment of same-sex spouses under certain employment benefits plans and arrangements.  The guidance was released on August 29, 2013 by the Treasury Department and the Internal Revenue Service, in the form of Revenue Ruling 2013-17 and two sets of Frequently Asked Questions (FAQs.)  I addressed this guidance briefly in my prior post.  Below I go into more detail on the key compliance points of relevance to employers:

Treatment of Same-Sex Marriage under Federal Tax Law

  • Same-sex marriages lawfully performed in any U.S. state, the District of Columbia, or a foreign county are valid as marriages under Federal tax law, regardless of where the couple reside.
    • This means that employers with operations in states that do not recognize same-sex marriage, such as Texas, must treat same-sex spouses residing in those states equal to opposite-sex spouses for Federal tax purposes, so long as the couple legally was married in a state or other locale that recognizes same-sex marriage.
    • Obviously, equal Federal tax treatment is also required in those states that currently recognize same-sex marriage: California (since June 28, 2013; also some unions prior to November 5, 2008); Connecticut, Delaware (eff. July 1, 2013); Iowa, Maine, Maryland, Massachusetts, Minnesota (eff. Aug. 1, 2013); New Hampshire, New York, Rhode Island (eff. Aug. 1, 2013); Vermont; Washington; District of Columbia.
    • For Federal tax purposes, the terms “spouse,” “husband and wife,” “husband” and “wife” and “marriage” include reference to lawful same-sex marriage as defined above.
    • Registered domestic partnerships, civil unions, or other relationships formalized under state law as something other than marriage are not treated as marriage for Federal tax purposes, whether between same-sex or opposite sex individuals.
      • The Internal Revenue Code (“Code”) permits tax-free treatment of employer-sponsored benefits, including health care, offered to employees, their spouses (now including same-sex spouses) and dependents.  Employer-sponsored benefits provided to individuals not meeting these categories constitutes taxable income to the employee; specifically “imputed” income generally equal to the value of the benefits provided.
      • These rulings take effect September 16, 2013 and subsequent, but have some retroactive effect as described below.

Compliance Point:  As a result of these rulings, employers must identify employees who are in legal same-sex marriages, and, for those employees, adjust income tax withholding, and Social Security and Medicare taxes for 2013, so that the cost of benefits provided to same-sex spouses are treated as excluded from gross income.  Employers must continue to impute income to employees for Federal tax purposes, equal to the value of benefits provided to registered domestic partners, partners in a civil union, and other non-marital relationships, whether same-sex or opposite sex.

Tax Refunds and Credits for Prior “Open” Tax Years

Individuals in Lawful Same-Sex Marriages

  • Individuals in legal same-sex marriages must file their income tax returns for 2013 and subsequent as either “married filing jointly” or “married filing separately.”
  • These individuals may – but are not required to – amend or re-file their income taxes, and claim tax refunds or credits, for all “open” tax years in which they were in a legal same-sex marriage.
    • Generally, for refund or credit purposes a tax return remains “open” for three years from the date the return was filed or two years from the date the taxes reported in the return were paid, whichever is later.
      • For individuals who timely filed their Form 1040 tax returns and paid related taxes by the April deadline each year, returns for 2010, 2011 and 2012 likely remain open, however readers must confirm with their own accountants or other tax advisors which tax years remain open for them.
      • The retroactive tax relief is as follows:
        • As mentioned, individuals in lawful same-sex marriages may re-file their federal tax returns as “married filing jointly,” or “married filing separately,” which was not previously an option under Federal law.
          • Note:  this change in filing status could significantly change the amount of  federal taxes owed and readers must consult with their own accountants or other professional tax advisors about the impact to their own bottom line.
  • Individuals may request a refund of income taxes they paid on “imputed income” resulting from benefits provided to same-sex spouses.  This relief can also take the form of a credit against future income taxes owed.
    • Example:  Alex legally was married to a same-sex spouse for all of 2012.  Alex’s employer offers group health coverage to employees, their spouses and dependents, and pays 50% of the cost of coverage elected by the employee.  The value of the employer-funded portion of coverage for Alex’s spouse was $250 per month.  Alex may file an amended Form 1040 (Form 1040X) for 2012 that reduces gross income by $3,000 ($250 x 12 months) and be refunded the taxes paid on that amount.
    • Employees who paid for their own health coverage with pre-tax dollars under a Code § 125 cafeteria plan have the option of treating after–tax amounts that they paid for same-sex spouse coverage as pre-tax salary reduction amounts.
      • Example:  Alex’s employer sponsors a group health plan under which employees must pay the full cost of spousal and dependent coverage.  However, they may do so with pre-tax dollars under a Section 125 cafeteria plan.  During open enrollment in late 2011 Alex enrolled in self-only coverage for 2012, but she entered into a legal same-sex marriage on March 1, 2012.  Alex enrolled her spouse in health coverage beginning March 1, 2012.  The monthly premiums were $500.  Alex may file an amended Form 1040 (Form 1040X) for 2012 that reduces her gross income by $5,000 ($500 x 10 months).  This puts her in the position she would have been in, had she been able to increase her salary reductions under the cafeteria plan to cover spousal coverage beginning in March 2012.
    • Other benefit plans with regard to which retroactive tax relief is available include qualified scholarships under Code § 117(d), fringe benefits under Code § 132, dependent care benefits under Code § 129, and employer-provided meals or lodging under Code § 119.
    • Note:  individuals who seek a tax refund or credit related to imputed income credited to them in past, open tax years must adjust their tax returns for those years consistent with the tax status (i.e., married filing jointly or separately) that they are claiming with respect to the refund or credit.  In other words, an individual cannot seek a refund of taxes paid for imputed income credited to them in 2012, but retain their status as a single taxpayer for 2012.

Compliance Point:  Employers need to be aware that employees in same-sex marriages may be filing amended returns and seeking tax refunds related to these benefits, and take steps to quantify the imputed income or provide other information to employees to assist in retroactive tax relief.


  • Retroactive income tax relief is only available to individuals; employers may not seek refunds for overwithheld income taxes in prior years.
  • Employers may seek a refund of Social Security and Medicare taxes paid on imputed income resulting from same-sex coverage, or claim a credit against future taxes owed.
  • The relief is available for “open” tax years which generally are the same as for individual tax returns (3 years from date of filing return or 2 years from date of paying taxes, whichever is later).
    • For purposes of calculating the open period, quarterly Form 941s are treated as if they were all filed on April 15 of a given calendar year.
    • The relief generally applies to the employer and employee portions of Social Security and Medicare taxes, however employers are limited to recovery of the employer portion only in two instances:
      • In relation to an employee who cannot be located, or
      • When the employer notifies an employee that it is seeking a refund but the employee declines, in writing, to participate in same.
    • The IRS will establish a “special administrative procedure” for employers to seek refunds or claim credits for Social Security and Medicare taxes related to same-sex spousal benefits, to be defined in future guidance.

Compliance PointEmployers should be alert to future guidance from the IRS on  the “special administrative procedures” that will apply to Social Security and Medicare tax refunds, and should take steps to quantify the amounts involved for open tax years.

Retirement Plan Issues

The IRS Frequently Asked Questions for individuals in lawful same-sex marriage begin to address same-sex spouse treatment under qualified retirement plans (QRPs), including 401(k) and profit sharing plans.  Much more guidance in this area will be needed both from Treasury and from the Department of Labor.  The following guidance applies as of September 16, 2013 and subsequent.  Future guidance will address any retroactive application of Revenue Ruling 2013-17 to retirement plans and other tax-qualified benefits, including with regard to plan amendments and plan operation in the interim between September 16, 2013 and the date such future guidance is published.

  • QRPs must treat a same-sex spouse as a spouse for all Federal tax purposes relating to QRPs, regardless of where the same-sex spouses reside.
    • For instance, a QRP maintained by an employer in Florida, which does not recognize same-sex marriage, must pay a survivor annuity to a surviving same-sex spouse of a plan participant, unless the spouse consented in writing to another beneficiary prior to the participant’s death.
    • QRPs are not required to treat registered domestic partners, partners to a civil union, or partners to other formalized but non-marital relationships as spouses, whether the partners are same-sex or opposite sex.
      • For instance, a QRP need not pay a surviving spouse annuity to a registered domestic partner upon a participant’s death.  However a plan may treat a registered domestic partner as a default beneficiary who will receive a plan benefit if the participant failed to choose another beneficiary.  Plans must also treat registered domestic partners as designated beneficiaries when they are named as such by the participant.

Compliance PointEmployers should be on the alert for future guidance on QRP administration related to same-sex spouses.  In the interim, check with your company’s accountant or other tax professional if same-sex spouse benefit questions arise.

Affordable Care Act Issues

Not all of the consequences of Federal tax recognition of same-sex marriage are positive.  Under the Affordable Care Act, couples in a legal same-sex marriage now must combine their incomes for purposes of determining eligibility for premium tax credits and cost sharing on the healthcare exchanges, beginning in 2014.  This may prevent some persons in same-sex marriages from receiving federal financial aid they would have qualified for, as unmarried individuals.

The reason for this is that financial aid towards health coverage on the exchanges is based on “household income” and household income must be between 100% and 400% of federal poverty level for financial aid to apply.  Couples whose combined income exceeds 400% of the Federal Poverty Level (currently $62,040 for a 2-person household) will be ineligible for any financial aid toward the cost of coverage even if, individually, the same-sex spouses might have qualified for coverage on their own.

Additionally, “dependent” coverage which must be offered by applicable large employers in 2015 applies to children up to age 26, but not to “spouses,” and hence not to same-sex spouses.

Hopefully, future guidance from the IRS and from Health and Human Services will address in more detail the impact that Federal tax treatment of same-sex marriages has under the Affordable Care Act.

Compliance Point:  Employers need to be aware that household income for employees in legal same-sex marriages will include their spouse’s compensation and will likely impact their eligibility for financial aid towards coverage on the health exchanges.

ACA Developments: Individual Mandate Transitional Relief; Nondiscrimination Regulations Yet to Issue

The IRS recently issued Notice 2013-42, which grants transition relief from the individual shared responsibility penalty for persons whose employers offer group health coverage on a non-calendar year basis.  Specifically, individuals who are eligible under an employer’s non-calendar year plan with a plan year beginning in 2013 and ending in 2014 will not be liable for the individual shared responsibility for the period from January 1, 2014, through the month in which the employer’s 2013-2014 plan year ends.  This frees these individuals from the duty to enroll in the plan in 2013, simply in order to have secured minimum essential coverage as of January 1, 2014.  Examples set forth in the notice suggest that an employee whose plan is on a non-calendar year cycle can wait to enroll in the 2014-2015 plan year, even when the employee’s spouse is eligible for coverage under a calendar year plan.

Secondly, June 30, 2013 came and went without the Treasury Department publishing proposed regulations on nondiscrimination rules for insured health plans.  The ACA imposes these rules but the Treasury Department has suspended enforcement of them, pending issuance of regulatory guidance.  As tax regulations generally cannot go into effect earlier than 6 months after publication, they needed to have been published by June 30 in order to take effect January 1, 2014.  It now appears possible if not likely that the nondiscrimination rules will not take effect until 2015, to allow employers who must commit to insurance policies on a 12-month cycle adequate time in 2014 both to understand the new regulations and to make plan design changes as needed. in order to comply with them.

Both of these developments transpired before the Treasury Department announced that it would not enforce until 2015 employer shared responsibility tax penalties, or tax reporting duties related to the employer and individual mandates, originally required in 2014.   It is likely that the individual mandate will go into effect on January 1, 2014 as scheduled.  What is not clear at this point is whether nondiscrimination rules will go into effect concurrently with the delayed employer mandate penalties, in 2015, or will be delayed an additional year, to 2016.    Given the Treasury’s expressed goal, in its memo, of implementing the ACA in a “careful, thoughtful manner,” it is possible that more time for compliance will be provided.

Employer Pay or Play Penalties Postponed Until 2015

This post was updated on July 14, 2013 to reference publication of IRS Notice 2013-45, Transition Relief for 2014 Under Secs. 6055 (Sec. 6055 Information Reporting), 6056 (Sec. 6056 Information Reporting) and 4980H (Employer Shared Responsibility Provisions).

In an online memo titled “Continuing to Implement the ACA in a Careful, Thoughtful Manner,” Mark Mazur, the Treasury Department’s Assistant Secretary for Tax Policy, announced July 2, 2013 that Treasury would not be enforcing “employer shared responsibility payments” – the pay or play penalty taxes – in 2014 as originally required under the ACA (now codified at Internal Revenue Code Section 4980H).  Instead, the penalties will apply to “applicable large employers” for the first time in 2015. (See end of post for definition of this term.)  In 2014, eligible employees will be able to obtain premium tax credits and cost-sharing payments under the state and federally facilitated health exchanges in 2014, but financial aid provided to full-time employees will not trigger tax penalties for applicable large employers during that year.

The same memo also postpones, for one year, tax reporting duties under Section 6055 of the Internal Revenue Code (relating to minimum essential coverage provided by insurers and self-funded employers), and Section 6056 (relating to minimum essential coverage provided by applicable large employers).

The IRS shortly thereafter published IRS Notice 2013-45 which provides formal transition relief for reporting under Code Sections 6055 and 6056 as well as for employer shared responsibility payments under Code Section 4980H.

The reporting duties under Code Sections 6055 and 6056 have not received nearly the level of attention as the pay or play penalties, but they are onerous.  (The reporting duties have not yet been described in proposed regulations.  What we know of them at this juncture is drawn from IRS Notices 2012-32 and 2012-33, which solicit public comments on the reporting regime.)  The burdensome nature of the reporting duties was the impetus for the Administration to postpone pay or play enforcement, as described below.

  • Code Section 6055 requires insurers, self-funded employers and certain other entities to report to the IRS information that will allow the IRS to track compliance with the individual mandate (individual shared responsibility duties).  The individual mandate requires individuals to obtain “minimum essential coverage” in 2014 and subsequent, or pay a penalty.  In addition to reporting to the IRS, providers of minimum essential coverage must provide individuals receiving the coverage with an annual written report that documents their compliance with the coverage requirement.  Reporting for coverage provided in 2014 was originally first required to be filed in 2015.  Once proposed reporting regulations issue later this summer, reporting likely will not be required until 2016 (for coverage provided in 2015).  However, the Treasury memo and IRS Notice 2013-45 both state that Treasury strongly will encourages voluntary compliance with reporting duties during 2014.
  • Code Section 6056 reporting will provide information to the IRS on compliance, by applicable large employers, with the employer shared responsibility/pay or play requirements.   It includes not only reporting to the IRS on the terms and conditions of coverage the employer offers to full-time employees, but also an annual written disclosure to full-time employees summarizing the information provided to the IRS.

These expansive reporting duties – and the significant administrative and other costs they will impose on employers –  generated considerable concern in the business community.  In the process of negotiating these issues with the Administration it apparently became clear that further work was needed to streamline and simplify the reporting process, and that without Treasury’s access to the information due to be reported in 2014, implementation of the pay or play penalty regime was unworkable.

The Treasury memo states that formal guidance describing the transition relief for tax reporting, and shared responsibility payments, will be published in the next week.  (And was published in the form of IRS Notice 2013-45).  It also states that more guidance on tax reporting duties will be published in the summer, after a “dialogue with stakeholders,” including employers already providing full-time employees with adequate coverage, that hopefully will result in some simplification if not reduction in the scope of reporting duties.  As mentioned, IRS Notice 2013-45 states that, once reporting guidance issues later this summer, voluntary compliance with reporting duties by self-funded employers, insurers, and applicable large employers is strongly encouraged.  It also clarifies that no other aspects of the Affordable Care Act will be affected by the delay, including individuals’ ability to obtain premium tax credit and other financial aid on the health care exchanges.

Although the memorandum is silent on the state of health exchange readiness (or, more accurately, non-readiness) across the nation, the decision to postpone pay or play penalties may result in some part from concerns about exchange implementation delays, particularly with regard to the 34 states that will either default to a federally-facilited exchange, or will partner with the federal government to establish an exchange.  Anemic carrier involvement in the exchanges may also be a factor.

It is too early to assess the full impact of the enforcement and reporting delay, but one possibility is that it will afford applicable large employers a opportunity to observe, in 2014, the degree to which employees not currently offered coverage seek exchange coverage, and qualify for premium tax credits and cost-sharing.  (The exchanges are supposed to report to applicable large employers when full-time employees qualify for financial aid starting in 2014, but it is not clear whether this can occur while employer and carrier reporting duties are suspended).  Employers may also anecdotally be able to observe the degree to which its non-benefited workforce obtains expanded Medicaid coverage, in those states that offer it beginning in 2014.  As a consequence the delay may allow applicable large employers to better design and tailor their health insurance coverage offerings, in 2015 and subsequent, to those full-time employees for whom employer-sponsored coverage is the best fit.

We will be posting updates as further guidance related to this significant ACA development becomes available.


“Applicable large employer” means an employer that employed, on business days during the preceding calendar year, an average of at least 50 full-time employees, including full-time equivalent employees.  Full-time employee means someone working at least 30 hours per week or 130 per month.  (Sole proprietors, partners in a partnership, 2% or more S-corporation shareholder, and “leased employees” as defined in IRC Section 414(n) are not counted.)  Full-time equivalent employees are hypothetical employees counted by totaling all non-full-time employee hours worked per month (but crediting no one employee with more than 120 hours for the month), and dividing the total by 120.)

New Rules on 90-Day Waiting Period Limitation Announce End of “Certificates of Creditable Coverage”

Proposed Regulations published in the Federal Register on March 25, 2013 explain how the maximum 90-day limitation on waiting periods will operate under employer-sponsored group health and insured individual health plans, beginning January 1, 2014.   The rules, set forth in Section 2708 of the Public Health Service Act (PHSA), apply to insured and self-funded group health plans, and to individual insured coverage, and apply equally to grandfathered and non-grandfathered plans.

The Proposed Regulations on waiting periods is consistent with earlier guidance issued in the form of IRS Notice 2012-19, which I summarized, in FAQ format, in this earlier post.   For your convenience, however, the key provisions of the regulations are set forth below:

  • The Proposed Regulations define a waiting period consistent with prior HIPAA regulations, as “the period that must pass before coverage for an employee or dependent who is otherwise eligible to enroll under the terms of a group health plan can become effective.”
  • Once eligibility requirements are met, coverage must begin once 90 calendar days, including weekend and holiday days, have elapsed.  If the 91st day falls on a weekend or holiday, the carrier or plan sponsor may elect to have coverage to be effective earlier than the 91st day, for administrative convenience, but may not delay coverage past the 91st day.
    • This means that the popular eligibility provision under which coverage begins 90 days after the first day of the first month following the date of hire is no longer permissible.  The new safe harbor is to ensure that coverage begins no later than 60 days after the first day of the first month following the date of hire.
    • As was described in Notice 2012-59, an employer or issuer has fulfilled the 90-day waiting period limitation so long as an employee can elect to begin coverage no later than 90 days after satisfying eligibility criteria, even if the employee is late in completing and submitting enrollment materials.
      • The Proposed Regulations describe, as permissible, language calling for coverage to begin “on the first day of the first payroll period on or after the date an employee is hired and completes the applicable enrollment forms,” provided that enrollment materials are provided to the employee on his or her start date and can reasonable be completed within 90 days.
      • In provisions mainly applicable to group health plans, whether self-funded or insured, a plan may impose eligibility criteria such as completion of a period of days of service (which may not exceed 90 days), attainment of a specific job category, or other criteria, so long as they have not been designed to avoid compliance with the 90-day waiting period.
        • As an example, a plan provides coverage only to employees with the title of sales associate.  Sarah is hired on October 17, 2014 as a junior sales associate.  On April 3, 2015, she is promoted to sales associate.  She must be offered coverage no later than July 3, 2015.
        • When a plan conditions eligibility on a cumulative service requirement, such as completion of a set number of hours of service, the hours-of-service requirement must not exceed 1,200.
        • When a “variable hour” or seasonal employee is hired – i.e., someone who cannot be classified as full-time (30 or more hours per week) or part-time, an employer is allowed to classify the employee as full-time (or not full time) over a measurement period not to exceed 12 months, consistent with proposed regulations on employer shared responsibility duties.   If the employee is determined to be full-time at the end of the measurement period, an employer will be deemed to have met the 90-day waiting period limitation period if the employee enters the plan no later than 13 months from the employee’s start date, plus the time remaining until the first day of the next calendar month (in instances when the employee’ start date is not the first day of a month).
      • The Proposed Regulations are effective for plan years beginning on or after January 1, 2014, however elimination of the requirement to provide Certificates of Creditable Coverage has a later effective date of January 1, 2015, as discussed below.
        • For employees who are in a waiting period for coverage when the Proposed Regulations go into effect on January 1, 2014 , the 90-day maximum period is applied to the entire waiting period, including time “served” prior to January 1, 2014.  The Regulations use an example of a calendar year plan with a 6-month waiting period and an employee hired on October 1, 2013, and require that that person be offered coverage no later than January 1, 2014, which is 93 days after her start date, because otherwise the plan would be applying, on January 1, 2014, a waiting period that exceeds 90 days.   The Regulations specify, however, that coverage is not required to be made effective before January 1, 2014.
        • The proposed regulations do not provide an example using a fiscal year plan, but presumably the same rule would apply to employees in a waiting period for coverage as of the start of the 2014-2015 fiscal plan year.
      • Notice 2012-59 stated that employers and insurance carriers could rely on its guidance through the end of 2014, and the Proposed Regulations take the position that they are consistent with, and no more restrictive than, the provisions of Notice 2012-59.  Accordingly, compliance with the terms of the Proposed Regulations will constitute compliance with Section 2708 of the PHSA at least through 2014.  If final regulations are more restrictive, they will not take effect prior to January 1, 2015.
      • Applicable large employers must be mindful that compliance with the 90-day waiting period limitation does not insulate them from penalty taxes under employer shared responsibility rules going into effect January 1, 2014.  For instance, a “full-time” employee (30 hours or more/week) who is required to complete 1,000 hours of service to meet plan eligibility rules may qualify for financial aid on a health exchange/marketplace while such eligibility period is met, even if the waiting period which follows does not exceed the 90-day maximum.

One significant change the regulations announce is that the “Certificates of Creditable Coverage” required under Title I of HIPAA will be phased out by 2015, having been made obsolete by the Affordable Care Act’s prohibition on exclusions from coverage due to pre-existing health conditions.  HIPAA limits exclusions from coverage due to a pre-existing condition to a maximum of 12 months (18 months in the case of special enrollment) which periods are reduced, month-for-month, by proof of prior “creditable coverage” under a group or individual health plan or policy.  Such proof takes the form of Certificates of Creditable Coverage.   The Affordable Care Act wholly eliminated the “pre-ex” condition exclusion for dependent children up to age 19 for plan years beginning on or after September 23, 2010, and the exclusion fully will be repealed for group or individual health plans with plan or policy years beginning on or after January 1, 2014.  Elimination of the pre-ex condition exclusion eliminates the need for Certificates of Creditable Coverage.

However, it will remain necessary for employer sponsors of self-funded group health plans, and for insurers, to continue to provide Certificates of Creditable Coverage through to December 31, 2014, to allow individuals joining plans in 2014 that have non-calendar plan years to avoid or reduce application of a pre-existing condition exclusion.  The agencies issuing the Proposed Regulations (IRS, DOL, Health and Human Services) invite public comment about those proposed applicability dates.



Proposed Regulations on Employer Shared Responsibility Provide Some Welcome News, Some Measures to Thwart Abuse

On December 28, 2012, the Internal Revenue Service and Treasury Department issued proposed regulations on the employer coverage mandate (“employer shared responsibility” rules) under Section 4980H of the Internal Revenue Code (“Code”), which was added as part of the Affordable Care Act.  On that date the IRS also posted on its website a list of Questions and Answers on the new guidance, written in more colloquial terms than the regulations.   Employer shared responsibility rules apply only to “applicable large employers” (ALEs), i.e., businesses that employed an average of 50 or more full-time employees (those working 30 or more hours/week, or 130 or more hours/month) or full-time equivalent (FTE) employees on business days in the preceding calendar year.  Therefore, smaller employers need not concern themselves with the new proposed regulations  — with one very significant caveat:  if they share common ownership with or are otherwise related to other business entities with their own employees, the proposed regulation may require that employees of all entities are combined for purposes of the 50 FTE headcount, such that the entire group of businesses constitutes a single ALE and must comply with the employer mandate.[1]

The proposed regulations incorporate a significant body of prior guidance on the employer mandate published in the form of IRS Notices in late 2011 and during 2012, which I addressed in an earlier post.[2]  The proposed regulations build on this prior guidance in response to public comments it received, resolve some questions the guidance left open, and depart from the prior guidance in certain instances.  The proposed regulations also contain several new “anti-abuse” rules that anticipate and attempt to thwart ways in which employers might manipulate employment status and thus reduce their employer mandate obligations starting in 2014.  A summary of key provisions follows.  In reviewing it, please bear in mind that it only skims the surface of a 144-page regulation (including an 89-page preamble), every page of which contains important guidance for employers who, this current calendar year, will or are likely to exceed the 50 full time/FTE threshold and thus have shared responsibility duties in 2014.

  • Affordability Based on Self-Only Coverage.  The proposed regulations finally resolve the question of whether the “affordability” yardstick for group health coverage will be based on the employee’s share of self-only coverage, or on its share of the always much higher dependent coverage.  “Affordable” in this context means coverage for which the employee-paid share of premiums does not exceed 9.5% of the employee’s compensation from the employer reported in Box 1 of Form W-2 for the year just ended.  ALEs that offer coverage to their full-time employees can still be subject to excise taxes under Code Sec. 4980H(b) if the coverage that they do offer is either unaffordable, as described above, or fails to provide “minimum value” meaning that the plan’s share of costs is at least 60%.  The proposed regulations make clear that the 9.5% of W-2 income threshold applies to the employee’s share of self-only coverage available under the lowest-cost plan or option the employer offers, that also provided minimum value.  This will come as a relief to large employers.  In response to comments that criticize the Box 1 of Form W-2 standard on the grounds that it excludes employee salary deferrals under 401(k) and cafeteria plans, the proposed regulations propose two other affordability safe harbors – one based on rates of pay and one based on the Federal Poverty Level.
  • Grace Period with Regard to Dependent Coverage.  The proposed regulations provide that, for ALEs that do not now offer dependent coverage to full-time employees, no assessable payments will be required for an ALE’s failure to offer dependent coverage during their 2014 plan year, provided that the employer takes steps during the plan year that begins in 2014 toward satisfying Code Section 4980H in full.  In addition, the proposed regulations define “dependents” for purposes of employer shared responsibility rules as the employee’s children up to age 26 (their 26th birthday), and as not including spouses.
  • 95% “Margin of Error” Rule.  To understand this provision of the proposed regulations, a bit of review is in order.  The Affordable Care Act imposes two different types of excise taxes on ALEs, called “assessable payments,” depending on whether or not the ALE fails to offer coverage to its full-time employees entirely, or offers inadequate coverage.  Inadequate coverage is coverage that fails to provide minimum value and/or is not “affordable” as defined above.  In the “no coverage” scenario, the excise tax under Code Section 4980H(a) applies.[3]  In the inadequate coverage scenario, the excise tax under Code Section 4980H(b) applies.[4]  With regard to the first excise tax for “no” coverage, the proposed regulations state that this tax will apply to ALEs that do not offer coverage at all, as has always been the rule, but also provide that the tax will not apply to an ALE that offers coverage to at least 95% of its full-time employees (or, if greater, 5 employees), but less than 100% of full-time employees.  This margin of error rule applies whether or not the failure to offer coverage to 100% of full-time employees is inadvertent.   However, the ALE could still pay an excise tax under Code Section 4980H(b), if at least one of the full-time employees not offered coverage qualifies for premium tax credits or cost-sharing reduction on an exchange.  Beginning in 2015 for ALEs who do not currently offer dependent coverage, the 95% minimum threshold will apply to full-time employees and their dependents.
  • Flexibility with Regard to Seasonal Employees.  Seasonal hires come into play in determining whether an employer is, or is not, an “applicable large employer” or “ALE” subject to shared responsibility rules, and again when determining which employees are “full-time.”   For purposes of determining ALE status, an employer counts seasonal workers who work full-time hours (30 or more per week; 130 or more per month) towards their “full-time” employee headcount.  The employer also counts less-than-full-time seasonal workers towards their “full-time equivalent” or FTE headcount.  Once an employer determines that the monthly average was 50 or above, it needs to determine whether the seasonal worker exception applies.   Under that exception, if the sum of an employer’s full-time employees and FTEs exceeds 50 for 120 days or less during the preceding calendar year, and the employees in excess of 50 who were employed during that period of no more than 120 days are “seasonal workers,” the employer is not considered to employ more than 50 full- time employees (including FTEs) and the employer is not an applicable large employer for the current calendar year.   Notice 2011-36 permitted four calendar months to be treated as the equivalent of 120 days, for these purposes, and the proposed regulations add even more flexibility by allowing that neither the four calendar months nor the 120 days used for these purposes need be consecutive.  Right now, the “seasonal worker” term is borrowed from Department of Labor regulations that primarily define seasonal workers as agricultural workers, and retail workers employed exclusively during the holiday season.  Contrast this with “seasonal employees,” which is a term used in the context of assessing full-time status.  Seasonal workers are classified with “variable hour employees” – employees who cannot accurately be predicted to be full-time or not upon hire – for purposes of the look-back “measurement period” and subsequent “stability period” safe harbors described in Notices 2011-36, 2012-17 and 2012-58, and incorporated into the proposed regulation with some changes.    “Seasonal employee” could include more types of employees than “seasonal worker” because the proposed regulations allow employers to use a “reasonable good faith interpretation” of the DOL “seasonal worker” definition, in applying the seasonal worker exception.  The preamble to the regulations specifically provide that treating an educational employee who takes the summer off from employment as a seasonal worker would not be a reasonable interpretation of the seasonal worker standard.
  • Service Counted Towards Full-Time Status Includes Paid Leave.  The proposed regulations provide that employees’ full-time status will be based on 30 (per week) or 130 (per month) “hours of service” which term will include non-work time for which pay is provided or due to be provided including absences for vacation, holidays, illness, incapacity (including disability), layoff, jury duty, military duty, and paid leaves of absence.  A proposed maximum allocation of 160 hours of paid time off was rejected because legally protected leaves of absence could exceed this budget, and thereby expose employers to discrimination claims if the limit were applied.  The proposed regulations also provide guidance on averaging hours of service, over look-back measurement periods, when an employee missed work due to one or more special unpaid leaves of absence including FMLA, USERRA (military duty) and jury duty, so that an employee is not misclassified as less than full-time as a result of such absences.
  • Ability to Use Pay Periods Start or End Dates for Certain Measuring Functions. The process of determining which employees are “full-time” and entitled to an offer of group health coverage is based on a chosen look-back “measurement period.” If an employee averages 30 or more hours per week or 130 or more per month during the measurement period, the ALE must offer the employee and his or her dependents (subject to the 2014 exception mentioned above) group health coverage for a subsequent “stability period,” whether or not the employee retains a full-time schedule during the stability period.   Notices 2011-36, 2012-17 and 2012-58 generally refer to measurement and stability periods based on periods of calendar months or month-long periods (e.g., April 15 to May 14).  However, public comments requested that employers be allowed to start or end a measurement period at the beginning or end of a payroll period.  The proposed regulations grant this request for payroll periods that are one week, two weeks, and semi-monthly in duration, and explain how to handle gaps between the payroll period start- or end-date, and the related measurement period start- or end-date.   In an example given, an employer using the entire calendar year as a measurement period, but wanting to start or end the measurement period on a payroll period start- or end-date, could either exclude the entire payroll period that included January 1 (the beginning of the year) if it included the entire payroll period that included December 31 (the end of that same year), or, alternatively, could exclude the entire payroll period that included December 31 of a calendar year if it included the entire payroll period that included January 1 of that calendar year.
  • Anti-Abuse Provisions.  The proposed regulations contain some anti-abuse rules aimed at anticipated employer efforts to manipulate the nature or length of the employment relationship so as to avoid application of shared responsibility rules.
    • Rehires/Returns from Unpaid LeaveThe employee rehire/return from unpaid leave of absence rules come into play in determining an employee’s status as full-time, or less than full-time, during a measurement period.  Specifically, when an employee works full-time hours during a portion of a look-back measurement period, later terminates employment, or goes on an unpaid leave of absence, and then is rehired or returns from that leave of absence, at what point may the employer disregard the hours of service worked prior to the absence and treat the employee as a new hire for purposes of evaluating full-time status?    The proposed regulations provide that an employer may treat an employee as terminated, and newly rehired, if the employee performs no service for a period of at least 26 consecutive weeks.  The employer can also use a “rule of parity” for periods less than 26 weeks, but at least four weeks long.  Under the rule of parity, the employee will be treated as a new hire if the period of absence (of at least four weeks) exceeds the length of the employment period that immediately preceded it.  For instance, if an employee works three weeks for an applicable large employer, terminates employment, and is rehired by the same employer ten weeks after terminating employment, the rehired employee is treated as a new hire.  An employee who is treated as a continuing employee (as opposed to an employee who is treated as terminated and rehired under the 26-week or “rule of parity” periods) is subject to the measurement period, and entitled to coverage during the stability period (presuming full-time status is attained over the measurement period) that would have applied to the employee had the employee not experienced the absence from service.
    • General Anti-Abuse RuleThe proposed regulations also provide that any hour of service will be disregarded if the hour of service is credited, or the underlying services are requested or required of the employee, for the purpose of circumventing employer shared responsibility rules.
    • Use of Temporary Employment AgenciesThepreamble to the regulations identify practices that the IRS and Treasury anticipate employers may try to exploit, using temporary employment agencies as purported common law employers, and state that final regulations on employer shared responsibility duties will expressly prohibit such practices.  In one scenario the employer would purport to employ individuals only part of a week, such as 20 hours per week, but would then hire the same individuals through a temporary employment agency who acts as their common law employer for the remaining hours in the week, with the result that the individuals do not qualify as full-time employees, for shared responsibility purposes, of either the employer “client” nor the temporary employment agency.  An alternative scenario would split the hours between two separate temporary employment agencies.  The preamble minces no words in commenting on these strategies:

“The Treasury Department and the IRS anticipate that only in rare circumstances, if ever, would the “client” under these fact patterns not employ the individual under the common law standard as a full-time employee. Rather, the Treasury Department and the IRS believe that the primary purpose of using such an arrangement would be to avoid the application of section 4980H.”

As this excerpt makes clear, the government intends that the employer shared responsibility duties will attach to businesses based on “common law” employment relationships, irrespective of third party involvement.  Very generally, a common law employment relationship exists if the employee is subject to the will and control of the employer not only as to what work must be done but as to how the work will be performed.  (This is a gross oversimplification; the IRS follows a 20-point test.)  This is a straightforward inquiry if the employer directly employs its entire staff.  However, complications arise for employers that use employee leasing companies/Professional Employer Organizations (PEOs) and temporary hire agencies.  Such employers will need to closely examine those relationships and determine where the common law employment relationship lies.    There is no better guide to such matters than Derrin Watson’s publication “Who’s the Employer” (6th Edition, 2012), however as is the case with common ownership issues, employers likely will need a seasoned ERISA attorney or other tax practitioner to determine where the true employment relationship lies.

  • Transition Relief for Fiscal Year Plans, Including Cafeteria Plan Election Changes.  The proposed regulations are effective for months beginning after December 31, 2013 but employers may rely upon them until a final regulation issues.   In addition, special transition rules are provided for employers with fiscal year plans.  If an applicable large employer member maintains a fiscal year plan as of December 27, 2012, the relief applies with respect to employees of the applicable large employer member (whenever hired) who, under the plan eligibility rules in effect as of December 27, 2012, would be eligible for coverage as of the first day of the first fiscal year of that plan that begins in 2014 (the 2014 plan year).  If an employee described in the preceding sentence is offered affordable, minimum value coverage no later than the first day of the 2014 plan year, no excise taxes will be due with respect to that employee for the period prior to the first day of the 2014 plan year.   Additional transition relief applies to employers who cover a significant percentage of employees under one or more plans with the same fiscal year as of December 27, 2012, and want to expand coverage under those plans, effective as of the first day of the 2014 plan year, to other, currently excluded employees in order to satisfy shared responsibility duties.  Finally, the proposed regulations contain transition relief for fiscal year Section 125/cafeteria plans, so that in January 2014, employees of an applicable large employer making salary reduction elections to pay for group health coverage can stop those deferrals in order to purchase individual coverage on an exchange.  In addition, employees who had not chosen to enroll in employer group health coverage could enroll effective January 1, 2014, in order to avoid penalties under the individual mandate going into effect that year, and could elect to pay their portion of premiums on a pre-tax basis through the cafeteria plan.   This cafeteria plan transition rule only applies to fiscal year plans and then only to employees’ elections to pay for group health coverage on a pre-tax basis and not to health flexible spending accounts or dependent care accounts.  These change in election rules, if adopted by an applicable large employer, must be set forth in the written cafeteria plan document.  Retroactive amendments may be made any time by December 31, 2014 and must be effective retroactively to the date of the first day of the 2013 plan year of the cafeteria plan.


[1] There is no better guide to shared ownership issues than Derrin Watson’s publication “Who’s the Employer” (6th Edition, 2012), however employers likely will need a seasoned ERISA attorney or other tax practitioner to carry out the analysis.  Keep in mind, also, that certain types of “affiliated service groups” can lead to a combined group of businesses for these purposes, even without any shared ownership between the entities.

[2] See Notice 2011-36 (definitions of employer, employee, and hours of service; proposed look-back/stability period safe harbor for determining full-time status); Requests for Comments set forth in Notice 2011-73 (“affordability” safe harbor based on 9.5% of Form W-2 compensation received from employer sponsoring health plan): Notice 2012-17 (proposed methods of determining full-time status of new employees); Notice 2012-58 (establishment of look-back/stability period safe harbors that employers may rely on through the end of 2014; guidance on determining full-time status of newly hired variable hour and seasonal employees).

[3] The “assessable payment” in such instance is determined on a month-to-month basis and is equal to 1/12th of $2,000 for all full-time employees for each month (after disregarding the first 30 full-time employees), regardless of which employees receive exchange subsidies.  The 30 full-time employee exclusion must be allocated among employers related by ownership, or otherwise, in proportion to each employer’s number of full-time employees as measured against total full-time employees in the controlled group, etc.

[4] The “assessable payment” in such instance is determined on a month-to-month basis and is equal to 1/12th of $3,000 for each full-time employee for each month that receives exchange subsidies.  However in no event will the assessable payment under Code Section 4980H(b) be larger than the penalty would be under Section 4980H(a) if no coverage were offered.