The IRS welcomed in 2013 with proposed regulations designed to help employers implement the 2014 pay or play penalty under Health Care Reform. The new regulations were published on January 2, 2013. They carry forward and expand upon prior guidance and offer some new transition relief.
PAY OR PLAY PENALTY
Beginning January 1, 2014, large employers with at least 50 full-time employees are subject to two different pay or play penalties (also known as employer shared responsibility payments):
- First, if an employer doesn't offer health coverage and at least one low income full-time employee enrolls in health coverage on an exchange and obtains a premium credit, the employer must pay an annual penalty of $2,000 multiplied by all the employer's full-time employees, disregarding the first 30. The penalty is payable on a monthly, pro-rata basis.
- Second, if an employer does offer health coverage but it is not affordable (see below) or is not of minimum value (to see related article in this Priority Alert click here) and a low income full-time employee enrolls in health coverage on the exchange and obtains a premium credit, the employer must pay an annual penalty of $3,000 for each such full-time employee. (However, this penalty is capped at $2,000 multiplied by all of the employer's full-time employees, disregarding the first 30.)
KEY QUESTIONS ANSWERED
The proposed regulations answer many questions concerning the penalty including the following:
What if an employer offers health coverage to some, but not all, of its employees; which penalty applies?
An employer that provides at least 95 percent of its full-time employees with health coverage, or if greater, coverage to all but five of its full-time employees, is considered to offer health coverage for purposes of the pay or play penalty. So, if an employer offers health coverage to 98 percent of its full-time employees, it is not subject to the $2,000 penalty but is subject to the $3,000 penalty with respect to each low income full-time employee who isn’t eligible for the employer's health plan and who enrolls in health coverage on the exchange and obtains a premium credit. (This is in addition to the penalty with respect to each low income full-time employee who is eligible for the employer's health plan but where the plan isn't affordable or not of minimum value).
Is an employer only required to offer health coverage to its employees (and not dependents) in order to avoid the penalty?
For 2014, the penalty will not apply if the employer offers health coverage (which is affordable and of minimum value) to its full-time employees. Offering coverage to dependents is not required. However, beginning with the 2015 plan year, employers must also offer coverage to an employee's dependents in order to avoid the penalty. For this purpose, "dependent" means the employee's dependent children (including natural, adopted, step and foster children) until age 26 and does not include the employee's spouse.
Does the penalty apply on a combined basis in the case of commonly-owned employers?
Employers that are part of the same controlled group or affiliated service group as defined by Section 414 of the Internal Revenue Code must be aggregated for purposes of determining whether the employer is a large employer (with at least 50 full-time employees) for purposes of being subject to the penalty. If the penalty applies, the commonly-owned employers are also only entitled to one 30 full-time employee reduction. The reduction is allocated ratably among the employers. However, the penalty is otherwise calculated and paid on an employer-by-employer basis. So, for example, each commonly-owned employer may separately elect whether to adopt a safe harbor measurement period/stability period and if it does so, the length and starting date.
The proposed regulations include several new transition rules to assist employers, including the following:
- Delayed Effective Date for Non-Calendar Year Plans. The pay or play penalty takes effect on January 1, 2014. The regulations introduce a delayed effective date for certain employers with non-calendar year plans that were in effect on December 27, 2012. First, with respect to employees eligible for or enrolled in the employer's health plan under its terms as in effect on December 27, 2012, the penalty will not apply until the first day of the employer's 2014 plan year. However, if the employer doesn't currently offer health coverage to all employees working at least 30 hours per week, this transition rule doesn't apply to those ineligible employees who will be considered full-time under the pay or play penalty. As a result, there is also a second transition rule providing a delayed effective date until the first day of the employer's 2014 plan year for all of the employer's employees provided at least 1/4 of the employer's employees are currently covered under its plan or at least 1/3 of its employees were offered coverage during the most recent open enrollment period.
- Short Measurement Period for 2013. Previous guidance allowed employers to adopt an optional 3 to 12-month measurement period to determine if ongoing employees work, on average, at least 30 hours per week for purposes of the penalty. If an employee works the required hours during the measurement period, the employer must offer the employee the requisite health coverage during the subsequent stability period in order to avoid the penalty. The stability period must be the greater of six months or the length of the measurement period (to see Priority Alert September 2012: New Guidance Helps Employers Determine Who is a Full-Time Employee Under Pay or Play Penalty click here). These measurement period and stability period rules create time constraints for employers who want to use a 12-month stability period for 2014, particularly for employer health plans operating on a calendar year basis (because the 12-month measurement period must begin by January 1, 2013). Consequently, solely for purposes of the stability period beginning in 2014, the employer may adopt a measurement period shorter than 12 months as long as certain requirements are satisfied. First, the measurement period must be at least 6 months long. Second, the measurement period must begin no later than July 1, 2013 and end no earlier than 90 days before the first day of the 2014 plan year.
- Shorter Look Back for Large Employer Determination. Employers with at least 50 full-time employees on business days during the preceding calendar year are subject to the pay or play penalty for the following year. The proposed regulations include a special transition rule for 2014 to assist employers who are close to the threshold in evaluating whether the penalty will apply. Specifically, employers may use any consecutive six-month period in 2013 for purposes of making the large employer determination for 2014 (rather than the entire year).
NEW AFFORDABILITY SAFE HARBORS
If an employer offers health coverage to its full-time employees, it must be affordable and of minimum value in order to avoid the $3,000 penalty. Previous guidance offered a safe harbor method, based on an employee’s W-2 pay, of defining affordability for this purpose. The new proposed regulations continue the W-2 safe harbor and offer two additional, alternative safe harbors.
W-2 safe harbor. Under this safe harbor, the affordability test is satisfied if the employee's contribution for single coverage under the employer's lowest cost medical option does not exceed 9.5 percent of the employee's Box 1 W-2 pay for that year. The proposed regulations provide that if an individual is not a full-time employee for the entire year, the employee's W-2 wages should be adjusted to reflect the portion of the year when the employee was offered coverage. Then, the adjusted wages should be compared to the employee's share of premium during that period.
Rate of pay safe harbor. Under the rate of pay safe harbor, the employer would take an hourly employee's hourly pay rate in effect at the beginning of the year and multiply it by 130 (the benchmark for full-time status for a month under the pay or play penalty). If the employee's contribution for single coverage under the employer's lowest cost medical option does not exceed 9.5 percent of the employee's monthly wage amount, the affordability test is satisfied. A similar safe harbor is available for salaried employees based on the employee's monthly salary in effect at the beginning of the year.
Federal poverty line safe harbor. Under the federal poverty line safe harbor, coverage provided to an employee is affordable if the employee's cost for single coverage under the employer's plan does not exceed 9.5 percent of the federal poverty line for a single individual as in effect as of the beginning of the year.