Final Regulations Clarify Requirements Under Pay or Play Mandate and Extend Transition Relief for Some Employers

by Sherman & Howard L.L.C.
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On February 10, 2014, the IRS issued final regulations implementing the employer shared responsibility provisions (the “Pay-or-Play Mandate”) of the Patient Protection and Affordable Care Act (“PPACA”). The final regulations clarified a number of issues remaining since proposed guidance was first issued in December of 2012, including, reporting requirements and affordability safe harbors. We will issue a series of two client advisories intended to provide employers with an overview of the key aspects of the Pay-or-Play Mandate final regulations.

This first installment in the series will explain how the final regulations calculate which employers are subject to the Pay-or-Play Mandate, as well as provide an overview of the transition relief contained in the final regulations which affect how penalties under the Pay-or-Play Mandate will be implemented during 2015 and 2016. The second installment in this series will provide an overview of the methods employers may use to determine which employees must be offered coverage, as well as the reporting requirements for employers under the Pay-or-Play Mandate.

Background Information on the Pay-or-Play Mandate

PPACA added Section 4980H to the Internal Revenue Code which provides that applicable large employers will be subject to a penalty if either (a) the employer fails to offer minimum essential coverage to substantially all (70% in 2015, 95% in 2016 and all subsequent calendar years) of its full-time employees (and dependents) under an employer-sponsored plan (the “subsection (a) penalty”), or (b) the employer provides its full-time employees (and their dependents) with the opportunity to enroll in minimum essential coverage, however such coverage is either unaffordable or does not provide minimum value, and one or more of their full-time employees receive a premium tax credit on a public exchange (the “subsection (b) penalty”). The penalty each month under subsection (a) of the Pay-or-Play Mandate is the amount equal to the employer’s number of full-time employees (minus up to 80 for 2015, and minus up to 30 in 2016 and all subsequent calendar years) multiplied by $166.67. The penalty each month under subsection (b) of the Pay-or-Play Mandate is the amount equal to the employer’s full-time employees who receive a premium tax credit multiplied by $250. However, the penalty imposed under subsection (b) may not exceed the penalty which would apply under subsection (a).

Pay-or-Play Mandate Effective Dates Depends on Size of Employer

The Pay-or-Play Mandate was expected to go into effect initially on January 1, 2014 for applicable large employers. The Pay-or-Play Mandate was first delayed in July of 2013 until the 2015 calendar year to give employers additional time to bring their plans into compliance, and to give the Departments involved in enforcing the Pay-or-Play Mandate additional time to finalize reporting requirements under the mandate. However, the final regulations have provided some additional relief from the Pay-or-Play Mandate for certain employers, based upon their size.

“Applicable large employers” are defined as any employer that has at least 50 full-time employees (including full-time equivalent employees). For purposes of determining whether an employer is an applicable large employer, full-time employee means those employees that work an average of 30 hours per week (as discussed below), and the test also includes part-time employees. Employers must determine each year, based upon their number of employees for the immediately preceding year, whether they will be considered an applicable large employer. Although employers typically will need to average their number of employees for the entire preceding calendar year to determine whether they qualify as an applicable large employer under the Pay-or-Play Mandate, the final regulations provide that for the 2015 plan year, employers may use a shorter measuring period of at least six consecutive months in 2014 for determining their size, as long as the 6-month period begins by July 1, 2014. For purposes of determining whether an employer is an applicable large employer under the Pay-or-Play Mandate, all companies that are in a controlled group must be treated as a single employer.

Small Employers

Small employers, defined as employers with less than 50 full-time employees (including full-time equivalent employees), are not subject to the Pay-or-Play Mandate. Small employers that choose to provide coverage for their employees will have the option to purchase such coverage through the Small Business Health Options Program (“SHOP”) Marketplace. Small employers with fewer than 25 full-time and full-time equivalent employees that purchase coverage through the SHOP marketplace may qualify for tax credits.

Medium Employers

Although all employers with 50 or more full-time employees (including full-time equivalent employees) are considered applicable large employers under the Pay-or-Play Mandate, the final regulations carve out temporary relief under the Mandate for medium employers. Medium employers are defined as those that employ at least 50, but less than 100, full-time employees (including full-time equivalent employees) during 2014. The final regulations provide that such employers will not be subject to either penalty imposed under the Pay-or-Play Mandate until the 2016 plan year, as long as an employer does not reduce the size of its workforce or its employees’ overall hours of service leading up to 2015 solely with the intent to qualify for this relief. Medium employers will be required to certify their status as a medium employer and eligibility for this relief. Beginning in 2016, medium employers will be treated the same as large employers for purposes of the Pay-or-Play Mandate penalties imposed under subsections (a) and (b) above.

Large Employers

The final regulations also provide transition relief under the Pay-or-Play Mandate for large employers, or those that employ 100 or more full-time employees (including full-time equivalent employees) during 2014. Such employers will not be subject to a penalty under subsection (a) above if the employer offers coverage to at least 70% of its full-time employees (and their dependents) during the 2015 plan year. Beginning in 2016, large employers will be subject to a penalty under subsection (a) above if the employer fails to offer coverage to at least 95% of its full-time employees (and their dependents), and at least one full-time employee obtains a premium tax credit. The final regulations also provide that an employer will be deemed to have offered coverage to full-time employees in a timely matter as long as the coverage is offered no later than the first payroll period beginning in January, 2015.

It is important to note here that no official relief from the penalty imposed under subsection (b) has been provided for large employers during 2015. The IRS has touched upon this issue in a set of Frequently Asked Questions issued simultaneous to the final regulations which provide that a large employer that offers coverage to at least 70% of its full-time employees (and their dependents) in 2015 still could be exposed to a penalty under subsection (b) if a full-time employee obtains a premium tax credit “because the employer did not offer coverage to that employee or because the coverage the employer offered that employee was either unaffordable … to the employee or did not provide minimum value …..” Therefore, it seems that under the current guidance, a subsection (b) penalty could be imposed on an employer in 2015 if an employee falls into the group of 30% of employees not offered coverage by the employer, or the coverage offered to the employee does not provide minimum value, and the employee obtained a premium tax credit.

Determining the Employer’s Size for Purposes of the Pay-or-Play Mandate

For purposes of determining an employer’s size under the Pay-or-Play Mandate and who can trigger a penalty, full-time employees are those who, with respect to any month, work an average of at least 30 hours of service per week.

Under regulations, an hour of service has been defined to mean:

  1. Each hour for which an employee is paid, or entitled to payment, for the performance of duties for the employer; and
     
  2. Each hour for which an employee is paid, or entitled to payment by the employer for a period of time during which no duties are performed due to vacation, holiday, illness, incapacity (including disability), layoff, jury duty, military duty, or leave of absence.

For workers paid on an hourly basis, employers must calculate the individual’s actual hours of service worked. For workers not paid on an hourly basis, employers must calculate hours of service using one of the following three methods:
 

  1. Count actual hours of service following the same methodology used for employees paid on an hourly-basis;
     
  2. Use a days-worked equivalency method (credit each employee with 8 hours of service for each day for which the employee is entitled to pay for at least one hour of service); or
     
  3. Using a weeks-worked equivalency (credit each employee with 40 hours of service per week for each week for which the employee is entitled to pay for at least one hour of service).

Although employers may use different methods to calculate the hours of service for different groups of non-hourly employees, such employers must group the non-hourly employees in a manner that is reasonable and consistent. Additionally, the final regulations prohibit employers from using a method if the result would be to “substantially understate an employee’s hours of service in a manner that would cause that employee not to be treated as a full-time employee”. One example of this would be using the second method to credit an employee who normally worked 12-hour shifts with only 8 hours of service for each day worked.

The final regulations reinforce that for employers that only exceed 50 full-time employees (and full-time equivalent employees) for 120 days or fewer during a calendar year, and that might only qualify as an applicable large employer due to the inclusion of seasonal employees (workers employed exclusively on a seasonal basis, including holiday seasons), such employer will not be treated as an applicable large employer for purposes of the Pay-or-Play mandate.

Full-Time Equivalent Employees

For purposes of determining whether an employer is an applicable large employer, “full-time equivalent employees” must be included in the count. To calculate the number of full-time equivalent employees that the employer must take into account for a calendar year, all employees who were not employed on an average of at least 30 hours of service per week for a calendar month in the preceding calendar year are included in calculating the number of full-time equivalents for that calendar month. The total hours of service for all part-time employees must be aggregated together for each month (however, in no case should more than 120 hours of service be included for any employee), and then divided by 120. The result is the number of the employer’s full-time equivalent employees for the month.

Because of the full-time equivalents rule, an employer cannot avoid being treated as an applicable large employer solely by making its workforce part-time. However, even if an employer is an applicable large employer solely due to its number of part-time equivalent employees, it will not necessarily be liable for the penalty tax. The penalty is calculated based only on full-time employees (those who work on average 30 or more hours per week). Full-time equivalents are not used to calculate the amount of the penalty tax.

The second installment of this client advisory will provide more information about how to determine an employer’s liability under the Pay-or-Play Mandate, and how to comply with applicable reporting requirements.
 


Circular 230 Notice

This advisory contains provisions concerning a federal tax issue or issues. This advisory is not intended or written to be used, and cannot be used, by any taxpayer for the purpose of avoiding penalties that may be imposed on any taxpayer by the Internal Revenue Service. For information about this statement, contact Sherman & Howard L.L.C. or visit our website at www.shermanhoward.com/PrivacyPolicy/Circular230/.

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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