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IRS Provides Guidance on HRAs, FSAs, Pay-or-Play and Other Issues
On December 16, 2015, the IRS released Notice 2015-87, which contains guidance on a broad range of topics under the Affordable Care Act ("ACA"), including:
- Health Reimbursement Arrangements ("HRAs")
- The application of COBRA to health FSAs with a carryover feature
- Section 6056 Reporting (Applicable Large Employers)
~ Treatment of employer provided flex-credits, opt-out payments and HRAs
~ Cash-in-lieu payments under the Service Contract Act ("SCA") or Davis Bacon Act ("DBA")
~ Penalty relief for "good faith" reporting
- Section 4980H Employer Mandate (Pay-or-Play)
~ Increases to "affordability" safe harbors
~ Increased pay-or-play penalties starting in 2015
~ Hours of service for employees on short- or long-term disability
Set forth below are key pieces of guidance found in the Notice.
HRAs and Other Arrangements that Reimburse Health Insurance Premiums
The Notice confirms prior guidance that prohibits employers from reimbursing employees for the cost of individual market health coverage, whether on a pre-tax or after-tax basis. The following is a summary of guidance provided on HRAs, which breaks little new ground:
- Retiree-only HRAs may reimburse individual market premiums (including premiums for Medicare and Medicare supplement plans)
~ A plan is "retiree-only" if it has fewer than two participants who are current employees
~ Retiree-only HRAs can be stand-alone and are not required to be integrated with a group health plan
- Employees may not use amounts remaining in an HRA to reimburse individual market coverage after group coverage terminates
~ Employers may allow employees to use HRA funds remaining after group coverage terminates as long as they're not used to reimburse individual market premiums
- Spouses and dependents must be enrolled in group health plan coverage for a current employee HRA to reimburse their claims
~ The Notice confirms that HRAs covering family members cannot be integrated with employee-only coverage
~ This requirement applies to plan years beginning in 2017
- HRAs for active employees may reimburse premiums for individual market coverage that solely provides excepted benefits, such as dental or vision coverage
- Amounts credited to a stand-alone HRA before 2014 may reimburse medical expenses pursuant to the terms in effect before 2014 without violating the ACA market reforms
Application of COBRA to Health FSAs with a Carryover Feature
COBRA rules do not require a health FSA to offer continuation coverage upon a qualifying event unless the amount remaining in the FSA exceeds the premium that could be charged to the employee for COBRA for the remainder of the plan year. In other words, the health FSA must be "underspent" at the time of termination in order for COBRA to apply.
The Notice clarifies that when determining if COBRA applies (i.e., if the FSA is underspent at the time of termination), carryover amounts must be included when determining if the amount that the employee is entitled to receive during the remainder of the plan year exceeds the amount the employee must pay for COBRA. However, the cost of COBRA does not include the amount of the carryover as the employee has already paid for the carryover in a prior year.
Example: An employee elects to contribute $2,500 to a health FSA in the current year and carries over $500 from the prior year ($3,000 total). The employee terminates employment June 30, after being reimbursed for $1,600 in medical expenses. The employee is entitled to COBRA under the health FSA because the amount remaining ($1,400) is greater than the COBRA premium that could be charged for the remainder of the year ($1,250, based on a June 30 termination of employment).
The Notice also clarifies that carryover amounts are available to COBRA participants to the same extent as active employees, but that employers may limit the carryover to employees who elect to contribute to the FSA in the following year, thus effectively negating the possibility that COBRA coverage could extend beyond the end of the current plan year. The Notice further provides that employers may limit carryovers to a maximum period (e.g., one or more years).
Example: At the end of the plan year, a COBRA qualified beneficiary has $500 remaining in a health FSA with a carryover feature. The qualified beneficiary is entitled to carry over $500 for the remainder of the COBRA duration, unless the terms of the plan limit carryovers to individuals who have elected to make a salary reduction election to the health FSA for that next plan year.
Section 6056 Reporting
The Notice clarifies several issues regarding the "affordability" of employer-sponsored health coverage, including how to treat various forms of employer contributions, such as amounts available under HRAs, as cafeteria plan flex-credits, and cash opt-out payments for purposes of ACA reporting (e.g., line 15 of Form 1095-C). In short, non-health flex credits and "unconditional" opt-out payments will be treated as increasing an employee's cost of coverage for purposes of Form 1095-C. However, see below for transition relief for arrangements that were in effect prior to December 16, 2015.
Most employers do not allow employees to use HRA funds to reimburse premiums under the employer's group health plan. However, if an employee can use funds in an HRA to pay for coverage under the employer's group health plan, the amounts available under an HRA are treated as an employer contribution to coverage. To be treated as an employer contribution, employees must be informed of the amount available under the HRA within a reasonable amount of time before the employee must decide whether to enroll in health coverage.
Example: An employer offers employee-only coverage for $200 per month. The employer also makes available $1,200 in an integrated HRA each year that employees can use to pay for the cost of medical, dental or vision coverage available under the employer's plan. For ACA reporting purposes, the cost of coverage is $100 per month (the $200 contribution is reduced by $100 per month based on the $1,200 annual HRA contribution that is available to reimburse the plan's premiums).
In general, HRAs (including retiree-only HRAs) are subject to the ACA's provider reporting requirements (Code Section 6055) unless they are integrated with the employer's fully insured group health plan or another exception applies (e.g., the plan is supplemental to Medicare).
The Notice clarifies that employer contributions include cafeteria plan flex credits when they can be used solely to pay for medical care (e.g., used as a health FSA contribution) or the employer's group health plan premiums. These are referred to as "health flex credits."
Example: An employer offers employees the choice of a $480 health FSA contribution or $480 toward the cost of medical, dental or vision coverage under the employer's plan. The $480 is a health flex credit and is treated as reducing the employee's cost of coverage for ACA reporting purposes (line 15 of Form 1095-C would be reduced by $40 per month reflecting the $480 health flex credit).
Unconditional Opt-Out Payments
A cash opt-out payment is "unconditional" when employees may receive it without having to show proof of other coverage, such as enrollment in a spouse's plan. Unconditional opt-out payments are treated as increasing an employee's cost of coverage, although see below for transition relief for 2015 and 2016. With unconditional opt-out payments, an employee must make the regular employee contribution and forgo the opt-out payment to enroll in coverage. Therefore, unconditional opt-out payments are added to the employee's cost of coverage for ACA reporting purposes.
Example: An employer offers employee-only coverage for $125 per month but pays employees $25 each month if they decline coverage. The opt-out payment is treated as increasing the employee's cost of coverage because the employee must forgo the opt-out benefit in addition to making the regular contribution to obtain coverage (line 15 of Form 1095-C would be $150).
Conditional Opt-Out Payments
A cash opt-out payment is "conditional" when made only to employees who show proof of enrollment in other coverage, such as that of a spouse's employer. It does not increase the employee's cost of coverage. In these situations, the opt-out payment is conditioned on an employee satisfying a meaningful requirement related to the provision of health care to employees. In other words, an employee is not entitled to the opt-out benefit simply by declining the employer's health coverage.
Example: An employer offers employee-only coverage for $125 per month but pays employees $25 per month if they opt-out in favor of a spouse's plan. The opt-out is not treated as increasing the employee's cost of coverage because it is subject to a meaningful condition related to the provision of health care to employees (line 15 of Form 1095-C would be $125).
Employers that offer a conditional opt-out benefit should ensure that they only recognize group health plan coverage and not individual market coverage or Medicare as "other coverage." Doing otherwise raises ACA market reform and Medicare Secondary Payer issues (for employers with 20 or more employees), and may not qualify as a conditional opt-out payment because the condition is not related to the provision of health care "to employees."
Transition Relief for Arrangements in Effect Prior to December 16, 2015
For 2015 and 2016 cafeteria plan years, employers may treat non-health flex credits (e.g., unconditional opt-out payments) as employer contributions for ACA reporting purposes as long as they were adopted or in effect prior to December 16, 2015 and were not substantially increased thereafter. In other words, for 2015 and 2016 plan years, employers are not required to treat an unconditional opt-out payment as increasing an employee's cost of coverage. For example, if an employer charges $100 per month for coverage and offers a $50 per month unconditional opt-out, the employer may report the employee's cost of coverage as $100 instead of $150. However, the IRS is encouraging employers to report the cost of coverage as including the opt-out payment (i.e., $150 in this example) and claim relief under the Notice if the IRS assesses an affordability penalty. The IRS prefers this approach as it's more likely an employee will obtain a premium credit if the higher cost is reported, and the true cost to the employee is $150 in this example when the opt-out payment is not conditioned on enrollment in other coverage.
Service Contract Act ("SCA") and Davis Bacon Act ("DBA") Employees
The Notice provides much-needed relief to employers with SCA and DBA employees. For plan years beginning in 2015 and 2016 and until further guidance is provided, such employers may treat "cash-in-lieu" payments as employer contributions toward the cost of health coverage, to the extent the amount of the payment does not exceed the amount required to satisfy the requirement to provide fringe benefit payments under the SCA or DBA. If not for this guidance, employers would have been required to treat "cash-in-lieu" payments as employee contributions for ACA purposes.
Example: An employer offers SCA or DBA employees the choice of coverage under a group health plan or $500 per month. For the employee, $500 per month does not exceed the amount required to satisfy the employer's fringe benefit requirements. The employee's cost of coverage is $0 per month for purposes of line 15 of Form 1095-C, although the employee may consider the required contribution to be $500 per month for premium tax credit purposes.
The IRS encourages employers not to reduce the amount of the employee's required contribution on Line 15 of Form 1095-C by the amount of a cash-in-lieu payment and claim relief under the Notice if contacted by the IRS regarding an assessable payment.
Penalty Relief for Good Faith Reporting
The Notice confirms that the IRS will not impose penalties on employers who file incomplete or incorrect returns for calendar year 2015 if they can show that they have made good faith efforts to comply. This relief does not apply to timeliness failures. However, employers that fail to timely meet the requirements still may be eligible for penalty relief if the IRS determines that there was reasonable cause for the timeliness failure.
Note: Penalties have increased for 2016 (applicable to 2016 returns that are filed in 2017)
Section 4980H Pay-or-Play
Increases to Affordability Safe Harbors
Under the pay-or-play mandate, an offer of employer-sponsored health coverage is "affordable" if the cost of employee-only coverage does not exceed 9.5% of an employee's household income, as indexed for inflation. For 2015 and 2016, the indexed numbers are 9.56% and 9.66%, respectively.
When it comes to determining "affordability" of health coverage, using an employee's household income would be difficult, if not impossible. Therefore, IRS regulations permit employers to use one of three safe harbors to determine affordability based on whether the applicable premium exceeds 9.5% of W-2 income, an employee's Rate of Pay or a measure of the Federal Poverty Level. That is, an employer using one of the safe harbors would not need to ask about an employee's household income to determine whether the insurance is affordable for purposes of the ACA; it would simply take the applicable safe harbor, multiply by 9.5% and measure the result against the premium for self-only coverage.
Prior guidance indicated that although the percentage of household income an employee may be charged may change each year, the three safe harbors are "hard-wired" at 9.5%. The Notice clarifies that the three affordability safe harbors are adjusted retroactively to match the indexed thresholds that apply to household income for 2015 and 2016. The Notice also confirms that the increased thresholds apply when determining if coverage is affordable under the interim guidance for multiemployer plans and whether a "qualifying offer" has been made for Section 6056 reporting purposes.
Increased Pay-or-Play Penalties
The Notice officially confirms that penalties under the employer mandate increase each year starting with 2015.
Crediting "Hours of Service" during STD and LTD
The Notices provides new guidance for employers regarding crediting hours of service for employees on leave. In general, any hours for which an employee is paid or entitled to pay are treated as "hours of service" for ACA purpose. The Notice confirms this concept but also provides that hours of service do not include hours for which the employee is paid under the employer's short- or long-term disability program as long as the employee contributed to the cost of coverage on an after-tax basis (or premiums were included in income). If employees pay for such coverage pre-tax, the payments will be treated as hours of service. The Notice also confirms that hours for which an employee is paid under workmen's compensation, unemployment or state disability programs are not hours of service for ACA purposes.
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