Employers face new penalties on health plans under the Affordable Care Act
IRS “pay or play” penalties apply now
INSIGHT ARTICLE |
Starting in 2015, large employers that fail to offer employee health insurance that meets Affordable Care Act (ACA) standards may be assessed a shared responsibility payment by the IRS. The payment, commonly known as the “pay or play” penalty, applies to for-profit and non-profit organizations, including churches and governmental entities. According to the Congressional Budget Office, employers in the United States will pay $164 billion in shared responsibility penalties over the next ten years, including $7 billion in penalties for 2015. In order to determine which employers owe the penalty, the IRS is requiring large employers to file Forms 1095-C and 1094-C to report workforce and health plan information for 2015 and future years.
Determining large employer status
A large employer is defined under the ACA as an employer with an average of at least 50 full-time employees (including full-time equivalents) during the preceding calendar year. Therefore, an employer must determine if it meets the 50-employee threshold for the current calendar year by evaluating its workforce for the prior calendar year.
Making this determination can be complex because employees of entities in an aggregated group are added together to determine whether the 50-employee threshold is met. Thus, a company with fewer than 50 full-time employees could be a large employer due to being in an aggregated group with other companies. If considered a large employer, the company would be subject to the ACA shared responsibility payment rules and the Forms 1095-C/1094-C filing requirements even though it has fewer than 50 full-time employees. An employer filing Form 1094-C must disclose to the IRS the names and EINs of the other employers in its aggregated group.
There are several types of aggregated groups:
- A parent-subsidiary group exists when one company owns at least 80 percent of one or more other companies.
- Brother-sister groups occur when five or fewer individuals, estates or trusts own at least 80 percent of two or more entities and have more than 50 percent identical ownership of those entities.
- Tax-exempt organizations could be in an aggregated group if at least 80 percent of the directors or trustees of one organization are representatives of or controlled by another organization.
- Firms that provide services, including health care, law, engineering, accounting, and other services, might be in an aggregated group if the firms have common owners, provide services for each other, or work together to provide services to customers.
- Any firm whose principal source of revenue comes from managing another company (including any affiliates) can be in an aggregated group with the company.
When various members of the same family own two or more companies, many assume that the companies are automatically an aggregated group. However, that is not the case. The ownership interests of each family member must be carefully analyzed to determine if the IRS standards for aggregated group status are met. Because many special rules apply, taxpayers should consult with their tax advisors when making aggregated group determinations.
Example: George and his two adult children, Carol and Kevin, own 100 percent of Company A and Company B as follows:
Based on this ownership structure, A and B are an aggregated group, and the companies’ employees are added together for purposes of the 50-employee threshold. Since the group has 75 employees, both companies are considered large employers even though each company individually has fewer than 50 employees. Consequently, both companies are subject to the ACA shared responsibility payment rules and the Forms 1095-C/1094-C filing requirements.
Suppose the ownership of Company B was split differently among the family members:
In this case, even though the same three family members own both companies, A and B are not an aggregated group under the IRS rules. Therefore, the employees of the two companies are not added together for ACA purposes. Since each company has less than 50 full-time employees, neither company is a large employer. Consequently, both companies are exempt from the ACA shared responsibility payment rules and the Forms 1095-C/1094-C filing requirements.
To count the number of employees for the 50-employee threshold, employers need to determine how many employees worked, on average, at least 30 hours per week during the preceding calendar year. The hours for employees who worked less than 30 hours per week are added together and divided by 120 to determine the number of full-time equivalent employees. For example, two part-time employees each working 15 hours per week would constitute one full-time equivalent employee. Special rules apply to seasonal employees.
ACA standards for health coverage
If a large employer wants to avoid the “pay or play” penalty, it must offer employee health coverage that meets three ACA requirements: (1) minimum essential coverage, (2) minimum value, and (3) affordability.
Minimum essential coverage. First, the ACA requires that the employer offer minimum essential coverage to at least 95 percent of its full-time employees and their dependents. Most insured or self-insured group health plans will constitute minimum essential coverage. The coverage must be offered to 95 percent (70 percent for 2015 only) of employees working, on average, at least 30 hours per week and their children up to age 26. Part-time employees working less than 30 hours per week are not required to be offered coverage. Interestingly, spouses are not considered dependents for this purpose; therefore, employers are not required to offer coverage to spouses in order to avoid the penalty.
If a large employer fails to meet the minimum essential coverage requirement, it could be assessed a penalty equal to the number of its full-time employees for the year (minus up to 30 employees, or for 2015 only, 80 employees) times $2,000 if at least one full-time employee purchases health coverage with premium tax credits through the Health Insurance Marketplace (also known as the exchange). No penalty is imposed for failing to offer coverage to part-time employees working less than 30 hours per week. This nondeductible penalty is imposed by month and is indexed for inflation. The penalty is $2,080 ($173.33 per month) for 2015 and $2,160 ($180 per month) for 2016.
Example: In 2015 and 2016, Company X offers a group health plan to its 280 full-time employees working in Arizona but does not offer coverage to its 20 full-time employees or five part-time employees working in other states. One full-time employee purchases health coverage through the Marketplace with premium tax credits. Since Company X is offering health coverage to 93 percent (280/300) of its full-time employees, it would not be subject to a penalty for 2015 since its meets the 70 percent threshold for that year. However, it does not meet the 95 percent threshold and could face a nondeductible penalty for 2016 of $583,200 (300 full-time employees – 30 employees) x $2,160.
Employers in an aggregated group are considered separately for penalty purposes. However, the 30-employee exclusion is prorated among the companies in the group based on the respective numbers of full-time employees. Each company is responsible for maintaining a health plan that meets ACA standards or paying a penalty based on its workforce. One company’s failure to maintain an ACA-compliant health plan does not trigger penalties for the other companies in the group.
Minimum value. Second, the ACA requires that health coverage meet a minimum value requirement. A health plan meets the minimum value requirement if it covers certain types of medical expenses and is designed to pay at least 60 percent of employees’ health care costs, with employees picking up the remaining 40 percent through deductibles and copays. An employer can determine if this minimum value standard is met by reviewing its Summary of Benefits and Coverage document or asking its health insurance carrier or third-party administrator. Alternatively, an employer can determine the value itself using a calculator created by the government or could engage an actuary to determine the value. Since an employer will be required to certify on Form 1095-C whether its plans meet the minimum value standard, it is important that every large employer have written documentation supporting the value of each of its health plans.
Affordability. Third, the ACA requires each health plan to meet an affordability standard, which limits the amount an employer can charge an employee for self-only coverage. There is no limit on the amount an employer can charge for other levels of coverage, such as family coverage. To be affordable, the employee’s cost for self-only coverage cannot exceed 9.5 percent of one of the following safe harbors: (1) the employee’s wages in box 1 of Form W-2, (2) the employee’s rate of pay, or (3) the federal poverty level. This percentage is indexed for inflation and is increased to 9.56 percent for 2015 and to 9.66 percent for 2016.
Failure to meet either the minimum value or the affordability requirement could subject an employer to a nondeductible $3,000 annual penalty for each full-time employee who purchases health insurance coverage on the Marketplace with premium tax credits. This penalty rises to $3,120 ($260 per month) for 2015 and to $3,240 ($270 per month) for 2016. For example, if an employer offers a health plan to its 300 full-time employees that does not meet the minimum value standard and 12 of those employees purchase coverage on the Marketplace with premium tax credits, the employer’s penalty for 2016 would be $38,880 (12 full-time employees x $3,240).
Paying the penalty
The IRS will determine if an employer owes a shared responsibility payment based on information obtained from the Health Insurance Marketplace and the Forms 1095-C and 1094-C filed by the employer. Employers will not be required to calculate the employer shared responsibility payment on any tax return that they file. Instead, the IRS will mail them a notice of their tax liability and give them an opportunity to respond before a demand for payment is made. Employers can reduce their exposure for penalties by ensuring that the IRS has accurate information about their plans via the Marketplace and Forms 1095-C and 1094-C.
Health Insurance Marketplace. When employees enroll in Marketplace coverage, they are asked whether they are offered ACA-compliant health coverage by their employers. Since the employee’s response to this query could trigger a penalty on the employer, starting in 2016, the Marketplace will mail an employer a notice indicating that a given employee is receiving tax subsidies for health insurance and that the employer may be subject to a penalty. The notice will contain details about how the employer can appeal the determination. An employer has 90 days to respond and can include evidence in the appeal that it did offer the employee ACA-compliant coverage. An appeal judge may request a hearing or additional documentation prior to making a decision on the appeal. Employers are advised to respond promptly to Marketplace notices to correct any misinformation the Marketplace has about an employee’s coverage.
Forms 1095-C and 1094-C. For 2015 and future years, large employers are required to file Forms 1095-C and 1094-C with the IRS to report whether an ACA-compliant health plan was offered to all full-time employees. The forms are complex and an error on the forms could provide inaccurate information about the employer’s workforce or plans to the IRS, thus triggering a penalty. Employers are encouraged to use care when preparing the forms and to file corrected forms if needed.
Transition relief for 2015 only applies to employers meeting certain requirements. Here is a brief summary of some types of transition relief:
- Employers with 50-99 full-time employees (including full-time equivalents) in 2014 that meet special rules may be exempt from employer shared responsibility payments for 2015. These employers would be subject to employer shared responsibility payments for 2016. This one-year delay gives these employers more time to comply with the ACA standards.
- Employers with non-calendar-year plans had until the first day of the plan year that began in 2015 to comply with the ACA standards if certain requirements were met.
- Employers that did not offer coverage to dependent children may be exempt for 2015 from penalties for failing to offer this coverage. The IRS does expect these employers to offer dependent coverage in 2016.
To address the shared responsibility payment rules, employers should take the following actions:
- Learn more about the rules through the resources available on the ACA Information Center for Applicable Large Employers (ALEs)
- Review ownership structures and perform an annual aggregated group analysis to determine which companies are in an aggregated group
- Identify each large employer based on employee counts in the prior calendar year
- Determine and document each employee’s full-time or part-time status by month based on ACA criteria
- Determine if the minimum essential coverage requirements are met
- Determine whether offered health plans meet the minimum value and affordability standards
- Calculate potential penalty exposure
- Consider any needed health plan design changes and evaluate the associated financial impact
- File accurate Forms 1095-C and 1094-C
- Respond to Health Insurance Marketplace notices as needed