IRS Final Rule on ACA (Affordable Care Act) Play or Pay Mandate Allows Employers to Finalize Compliance Plans
The IRS issued final regulations on the employer shared responsibility provisions of the Patient Protection and Affordable Care Act (ACA), often referred to as the "play or pay" mandate, on February 9, 2014. The final regulations contain 227 pages of detailed rules implementing these provisions.
With the release of the final regulations, employers and their legal advisors now have the information they need to finalize and implement a strategy for complying with the law's employer shared responsibility provisions.
This bulletin provides a brief overview of certain key aspects of the final regulations.
2015 Transition Relief
50 – 99 Full-Time Employees. The final regulations postpone for another year, until 2016, the application of the employer shared responsibility provisions to employers with at least 50, but less than 100, full-time employees (including full-time equivalents). These provisions initially were scheduled to become effective in 2014 for all employers with 50 or more full-time employees. Last summer the IRS postponed enforcement of those rules until 2015. The final regulations postpone the application of the employer mandate for another year, to the first plan year beginning on or after January 1, 2016, for employers with less than 100 full-time employees (including full-time equivalents) as long as (a) the employer does not reduce the size of its workforce in 2014 to under 100 full-time employees for purposes of qualifying for this transition relief and (b) the employer does not eliminate or materially reduce the health insurance coverage offered as of February 9, 2014, the date the final regulations were issued.
100 or More Full-Time Employees. The final regulations also reduce from 95 to 70 the percentage of full-time employees (and their dependents) an applicable large employer must offer coverage in 2015 in order to avoid being subject to the so-called "no-coverage" penalty. This is a penalty of $2,000 per year per full-time employee if a covered employer fails to offer minimum essential coverage to substantially all full-time employees (and their dependents) and at least one full-time employee purchases subsidized exchange coverage. Under the statute and proposed regulations, the first 30 full-time employees are disregarded for purposes of computing this penalty. Under the final regulations, the first 80 full-time employees are disregarded for 2015 as part of the transitional relief provided.
For example, if an employer with 500 full-time employees fails to offer minimum essential coverage to at least 70% of its full-time employees in 2015, and at least one full-time employee receives a premium assistance tax credit for purchasing coverage on an exchange, the employer would pay a penalty (referred to as an "assessable payment") for the year of $840,000 ((500 – 80) x $2,000). In 2016, that employer would pay a penalty of $940,000 ((500 – 30) x $2,000) if it failed to offer coverage to at least 95% of its full-time employees.
Significantly, employers are not eligible for any partial credit in determining the amount of the penalty assessed. In other words, an employer that offers coverage to 69% of its full-time employees in 2015 or 94% in 2016 will pay the same penalty that it would pay if it did not offer any coverage at all. This means no employer can afford to inadvertently fail the coverage threshold, so careful attention must be paid to the final regulation's definition of full-time employee and the detailed rules imposed for measuring hours of service, as described further below.
An employer who complies with the coverage threshold is still subject to a penalty of $3,000 per year for each full-time employee who is either (a) not offered coverage by the employer or (b) offered insufficient coverage (coverage that does not provide minimum value or is not considered affordable), and who enrolls in subsidized exchange coverage. As part of the transition relief provided in the final regulations, employers with at least 50 but less than 100 full-time employees (including full-time equivalents) generally are not subject to this penalty until 2016.
Defining Full-Time Employees
The ACA defines a "full-time employee" as an employee who, with respect to any month, is employed on average at least 30 hours of service per week.
Like the proposed regulations issued in December 2012, the final regulations allow employers to use an optional look-back measurement method to determine whether employees with varying hours and seasonal employees are full-time. Under the look-back measurement period approach, an employer determines an employee's status as a full-time employee during a future period (referred to as the stability period) based on the hours of service of the employee in a prior period (referred to as the measurement period).
The final regulations adopt the definition of hours of service set forth in the proposed regulations, with certain additions and clarifications. When determining full-time status on a monthly basis, an average of 30 hours of service per week is the equivalent of 130 hours of service in a calendar month under both the monthly and look-back period approaches.
Hours of service include both hours worked and paid time off. For hourly employees, hours of service must be based on actual hours worked; for salaried employees, employers may use either actual hours (provided records are maintained) or one of the "equivalencies" authorized by the regulations pursuant to which an employee is credited with either eight hours for each day worked or 40 hours for each week. The final regulations add a new permitted equivalency that colleges and universities may use for adjunct faculty members.
The regulations provide clarification with respect to the treatment of volunteers, student employees, part-time employees, staffing agency employees, seasonal workers, international transfers, layover hours and on-call pay. Break-in-service rules for leaves of absence and rehires have been expanded and additional specifics provided, and restrictions have been placed on the ability of employers to use the monthly measurement period for some groups of employees and the look-back measurement period for others.
These additional details are designed to clarify how the monthly measurement period and optional look-back measurement period work. Both approaches reflect a significant departure from traditional methods employers have used in determining eligibility for health benefits and will require focused effort to implement.
Affordability Safe Harbors
The final regulations adopt, with minor modifications, the three optional affordability safe harbors described in the proposed regulations. As noted above, even if an applicable large employer offers coverage to 95 percent (70 percent for 2015) or more of its full-time employees (and their dependents), thereby avoiding liability for the $2,000 per employee per year "no-coverage" penalty, the employer may be subject to a $3,000 penalty per applicable employee per year for each full-time employee who purchases subsidized exchange coverage. By offering coverage providing minimum value and setting the employee premium for the employer's least expensive coverage option within one of the affordability safe harbors, an employer can avoid being subject to the assessment of the $3,000 per year penalty for those full-time employees to whom it offers coverage.
The three safe harbors are (1) the Form W-2 wages safe harbor, (2) the rate of pay safe harbor and (3) the federal poverty line safe harbor. Coverage is deemed to be affordable for purposes of avoiding the employer penalty if the employee share of the monthly premium for lowest-cost employee-only coverage option does not exceed 9.5 percent of:
the employee's box 1 Form W-2 wages for the year divided by 12 (and pro-rated for partial years); or
the employee's monthly salary or, in the case of an hourly employee, the employee's hourly rate multiplied by 130; or
the federal poverty line for a single individual for the applicable calendar year, divided by 12.
Employers should be mindful of these safe harbors when setting employee premiums for 2015 and subsequent years.
Assessment and Payment of Penalties
The IRS will contact employers to inform them of their potential liability and provide them an opportunity to respond before liability is assessed or demand for payment is made. This process is expected to occur annually after employees' individual tax returns are due for that year claiming premium tax credits and after the due date for employers that meet the 50 full-time employee threshold to file information returns identifying their full-time employees and describing the coverage that was offered (if any). Final regulations on employer reporting obligations are expected to be issued soon, with additional guidance on the penalty assessment process to follow later.
The ACA significantly increases the potential adverse consequences to an employer for misclassifying workers as independent contractors. Consistent with the proposed regulations, the final regulations define an "employee" for purposes of the employer shared responsibility provisions as an individual who is an employee under the common law standard, and not including a leased employee, a sole proprietor, a partner in a partnership, or a two-percent S corporation shareholder. The final regulations also exclude from the definition of employee qualified real estate agents and direct sellers (as defined in Internal Revenue Code section 3508).
If a worker is determined to have been misclassified as an independent contractor rather than an employee, in addition to payroll-related taxes and penalties, beginning in 2015 an employer also will be subject to ACA employer shared responsibility penalties if the worker is a full-time employee for ACA purposes. In a worst-case scenario, the retroactive reclassification of workers as employees could result in the employer failing to satisfy the 95 percent coverage threshold (70 percent for 2015), thereby triggering a penalty of $2,000 per year for each full-time employee (minus the first 80 in 2015 and the first 30 thereafter).
The ACA requires employers to make significant changes in how they define eligibility for health benefits purposes and administer plan eligibility rules. Compliance with the law's detailed requirements is essential in minimizing an employer's liability for penalties that the IRS will begin assessing for 2015. Employers should now develop and implement a legal strategy for complying with the employer mandate.