As applicable large employers grapple with the Affordable Care Act’s (ACA) employer shared responsibility (pay-or-play) rules, two questions arise with notable frequency:
Do I have to offer the same group health insurance coverage on the same terms to all my full-time employees?
Do I have to offer pre-tax treatment of premiums to all my employees?
These questions—which arise under Internal Revenue Code §§ 105(h) and 125, and Public Health Service Act § 2716—are important as employers endeavor to navigate the penalty provisions of Code § 4980H. They are particularly relevant in the case of employers that previously did not offer coverage to a large group of employees (e.g., in industries such as staffing, restaurants, retail, hospitality and franchising, among others). As we explain below, what makes these questions challenging is that theory varies widely from practice for various reasons. The present issues are ripe for regulatory attention, and it is entirely likely that today’s answers will not be tomorrow’s answers.
Fully-insured Group Health Plans
Other than a brief period two decades ago, before the ACA there were no non-discrimination standards that applied to fully-insured group health plans. The ACA changed that in newly added Public Health Service Act § 2716, the provisions of which are incorporated into the Internal Revenue Code and ERISA. Enforcement of these new group health plan non-discrimination rules has been delayed indefinitely, however, by IRS Notice 2011-1. So, where the question involves a fully-insured group health plan, the answer is simple: at least for now, an employer is currently free to offer different group health insurance coverage to different groups or cohorts of full-time employees with impunity. This will change, of course, once the regulators get around to issuing regulations.
In 1978, when Congress first turned its attention to group health plan non-discrimination, it was of the (subsequently discredited) view that carrier underwriting rules would be sufficient to curb discriminatory plan designs in the case of fully-insured arrangements. Congress had a change of heart, and in the Tax Reform Act of 1986 added the now infamous “Code § 89,” which established a mind-numbingly complex set of nondiscrimination rules that applied to a broad range of welfare and fringe benefit plans, including employer-provided group health plans. Proposed regulations issued in 1989 were the subject of intense criticism. Despite some delays in the effective dates, and in spite of an earnest attempt at simplification, intense lobbying pressure (particularly by small business interests) ultimately doomed the measure. Code § 89 was repealed in 1992 (retroactive to 1989). In the process of writing rules under the ACA, the regulators are no doubt mindful of the frosty reception given the 1989 proposed rules.
For a comprehensive discussion of the issues that confront the regulators as they craft non-discrimination rules under Public Health Service Act § 2716, please see the August 3, 2012 comment letter submitted by the American Bar Association Tax Section and a separate outline on the subject prepared by Helen Morrison, Ernst & Young LLP and Linda Mendel, Vorys, Sater, Seymour and Pease LLP.
Self-funded Group Health Plans
Self-funded group health plans are a different matter. Since 1978, Code § 105(h) has imposed rules governing discrimination on the basis of eligibility or benefits. Failure to follow these rules results in the taxation of “excess benefits” in the hands of highly compensated participants. (For a summary of the Code § 105(h) non-discrimination rules, click here.) But an understanding of these rules, no matter how thorough, comprehensive, or accurate, obscures the practical reality: the rules are rarely followed or enforced. And where employers do attempt to follow them, the compliance testing methods adopted by one employer are unrecognizable to another employer following the same rules! This too is likely to change once the regulators turn their attention to group health plan non-discrimination issues generally.
Cafeteria plan non-discrimination poses an even more daunting problem for two reasons: first, there is not one but up to four non-discrimination tests that apply; and second, there are no final regulations telling us how these rules work. In 2007, the Treasury Department and the IRS issued a comprehensive set of proposed cafeteria plan rules, with particularly detailed non-discrimination provisions. These proposed non-discrimination rules are quite strict. Different levels of employer contributions to the same plan, for example, could trigger a violation. Because the proposed rules are all the guidance we have on the subject, some practitioners treat them as authoritative. They are not. Different levels of employer contributions, for example, are commonplace. This does not mean that there are no rules, however. The statute itself is clear that cafeteria plans may not freely discriminate. A cafeteria plan covering only, say, a (highly paid) headquarters group, will be discriminatory based on any reasonable reading of the statute. Beyond that there is little agreement as to where one might draw the proverbial line.
But for the ACA, the proposed 2007 cafeteria plan rules would likely be in final form by now. The regulators will complete this project at some point. When that happens, compliance with the non-discrimination rules will take on a new urgency.