Pay or Play Penalty—Cafeteria Plan Elections

Pay or Play Penalty—Cafeteria Plan Elections

The Affordable Care Act (ACA) imposes a penalty on large employers that do not offer minimum essential coverage to “substantially all” full-time employees and dependents. Large employers that do offer coverage may still be liable for a penalty if the coverage is unaffordable or does not provide minimum value.

On Feb. 12, 2014, the IRS published final regulations on the ACA’s employer shared responsibility rules. These regulations finalize provisions in proposed regulations released by the IRS on Jan. 2, 2013. Under the final regulations, applicable large employers that have fewer than 100 full-time employees generally will have an additional year, until 2016, to comply with the pay or play rules. Applicable large employers with 100 or more full-time employees must comply with the pay or play rules starting in 2015.

cafeteria plan rules

Many employers offer health plans to employees through salary reduction under a section 125 cafeteria plan. Generally, cafeteria plan elections must be made before the start of the plan year and are irrevocable during the plan year. This means that participants ordinarily cannot make changes to their cafeteria plan elections during a plan year.

Employers do not have to permit any exceptions to the election irrevocability rule for cafeteria plans. However, the IRS’ cafeteria plan regulations allow an employer to design its cafeteria plan to permit employees to change their elections during the plan year under certain narrow circumstances. For example, a cafeteria plan may be designed to allow mid-year election changes when participants have a change in legal marital status (including marriage, death of spouse, divorce, legal separation or annulment).

The IRS has expanded the rules for mid-year election changes in response to certain ACA reforms, including the individual mandate and the availability of coverage under the health insurance Exchanges.

TRANSITION RULE—PERMISSIBLE ELECTION CHANGES FOR 2013 PLAN YEARS

The individual mandate and the availability of coverage through an Exchange were both effective as of Jan. 1, 2014. This date may have raised issues for plans that do not have a Jan. 1 plan year, or non-calendar year plans. The effective dates for these provisions were not affected by the Obama Administration’s decision to delay the employer mandate penalties.

An employee who was eligible to enroll in an employer’s plan, but did not do so, may have wanted to enroll in the employer’s plan in the middle of the plan year to meet the individual mandate requirements. (On June 26, 2013, the IRS issued Notice 2013-42 to provide transition relief from the individual mandate for certain months in 2014 to individuals who are eligible to enroll in employer-sponsored non-calendar year plans.)

An employee who was already covered under a non-calendar year plan may have wanted to discontinue coverage under that plan and enroll in an Exchange plan in the middle of the plan year.

The proposed regulations provided that an applicable large employer may choose to amend its cafeteria plan to permit either (or both) of the following changes in salary reduction elections, which apply regardless of whether employees experience a change of status event under the cafeteria plan regulations:

·         An employee who made a salary reduction election through his or her employer's cafeteria plan for health plan coverage with a non-calendar plan year beginning in 2013 can prospectively revoke or change his election regarding the plan during that plan year.

·         An employee who did not make a salary reduction election under his or her employer's cafeteria plan for health plan coverage with a deadline beginning in 2013 (before the applicable deadline under the cafeteria plan regulations) can make a prospective salary reduction for coverage on or after the first day of the cafeteria plan's 2013 plan year.

These changes were permitted only once during the plan year, and only with respect to accident and health plan coverage offered under a non-calendar year plan.

On Oct. 31, 2013, the IRS released Notice 2013-71 (Notice), which clarified the scope of this transition rule. The transition rule specifically refers to applicable large employer members, generally meaning a person that, together with one or more other persons, is treated as a single employer that is an applicable large employer. The Notice clarifies that relief is available to an employer with a cafeteria plan with a non-calendar plan year beginning in 2013, whether or not the employer is an applicable large employer or applicable large employer member.

The Notice also states that any cafeteria plan amendment adopted under this transition rule may be more restrictive than the amendments described in the rule, but may not be less restrictive. For example, an employer may amend its cafeteria plan to allow an employee to prospectively revoke or change his or her election once during a limited period (for example, the first month of 2014 only, rather than the entire plan year), regardless of whether the employee experienced a change in status event under the cafeteria plan rules.

The final regulations recognize that the initial availability of Exchange coverage and the implementation of the individual mandate were both one-time events at the beginning of 2014 that only affect employee decisions during 2013 non-calendar plan years. Thus, the final regulations do NOT extend the transition rule for permissible mid-year cafeteria plan election changes to non-calendar year plan years beginning in 2014.

Written Plan Amendment Required

Employers that wish to allow the change in election rules permitted under this transition relief must incorporate the rules in their written cafeteria plans. Cafeteria plans can be amended retroactively to implement these transition rules. The retroactive amendment must be made by Dec. 31, 2014, and must be effective retroactively to the date of the first day of the cafeteria plan's 2013 plan year.

transition relief—Individual mandate

Beginning in 2014, the ACA requires most individuals to obtain acceptable health insurance coverage for themselves and their family members or pay a penalty. This provision is often referred to as the “individual mandate.”

According to the IRS in Notice 2013-42, without transition relief, many individuals eligible to enroll in non-calendar year plans would have needed to enroll in 2013 (before the individual mandate became effective) in order to maintain minimum essential coverage for months in 2014.

IRS Notice 2013-42 provides transition relief for certain employees with respect to the individual mandate. Under this transition relief, an employee (or an individual having a relationship to the employee) who was eligible to enroll in an employer-sponsored non-calendar year plan with a plan year beginning in 2013 and ending in 2014 (the 2013-2014 plan year) will not be liable for the individual mandate penalty for certain months in 2014. The transition relief begins in January 2014, and continues through the month in which the 2013-2014 plan year ends.

additional irs guidance for mid-year election changes

On Sept. 18, 2014, the IRS issued Notice 2014-55, which allows cafeteria plans to permit mid-year election changes in certain situations related to the availability of Exchange coverage. 

The IRS recognizes that an employee may want to revoke an election under his or her employer’s plan in order to purchase coverage through an Exchange if:

·         The employee’s hours of service are reduced so that the employee is expected to average less than 30 hours of service per week, but the reduction does not affect eligibility for coverage under the employer’s group health plan; or

·         The employee would like to cease coverage under the employer’s group health plan and purchase coverage through an Exchange, without having a period of either duplicate coverage or no coverage.

In each of these situations, Notice 2014-55 permits a cafeteria plan to allow an employee to prospectively revoke his or her election for coverage under the employer’s group health plan during a period of coverage, as long as the plan provides minimum essential coverage (MEC) and is not a health FSA.

Certain conditions must be met for the change to be permitted.  Also, an election to revoke coverage on a retroactive basis is not allowed.

The guidance contained in Notice 2014-55 is effective on Sept. 18, 2014. The IRS intends to amend the current cafeteria plan regulations to reflect the guidance in this notice. However, taxpayers may rely on the guidance in Notice 2014-55 until further guidance is issued. 

Reduction in Hours of Service

A cafeteria plan may allow an employee to prospectively revoke an election of coverage under a group health plan if both of the following conditions are met:

·         An employee who was reasonably expected to average at least 30 hours of service per week has a change in employment status so that the employee will reasonably be expected to average less than 30 hours of service per week after the change (even if that reduction does not result in the employee ceasing to be eligible under the group health plan); and

·         The revocation of the election of coverage under the group health plan corresponds to the intended enrollment of the employee (and any related individuals who cease coverage due to the revocation) in another plan that provides MEC. The new coverage must be effective no later than the first day of the second month after the month in which the original coverage is revoked.

A cafeteria plan may rely on an employee’s reasonable representation that he or she and related individuals have enrolled (or intend to enroll) in another plan that provides MEC within the required timeframe.

Exchange Enrollment

A cafeteria plan may allow an employee to prospectively revoke an election of coverage under a group health plan if both of the following conditions are met:

·         The employee is eligible for special enrollment in an Exchange plan OR the employee wants to enroll in an Exchange plan during the Exchange’s annual open enrollment period; and

·         The revocation of the election of coverage under the group health plan corresponds to the intended enrollment of the employee (and any related individuals who cease coverage due to the revocation) in an Exchange plan. The Exchange coverage must be effective beginning no later than the day immediately following the last day of the original coverage that is revoked.

A cafeteria plan may rely on the reasonable representation of an employee who has an enrollment opportunity for an Exchange plan, that he or she and related individuals have enrolled (or intend to enroll) in an Exchange plan for new coverage that is effective within the required timeframe.

Plan Amendments

Allowing the changes permitted by Notice 2014-55 is optional. Employers do not have to permit these changes under their cafeteria plans. However, if the employer chooses to allow the new permitted election changes under Notice 2014-55, a cafeteria plan must be amended to provide for the election changes.

In general, the amendment must be adopted on or before the last day of the plan year in which the elections are allowed. It may be effective retroactively to the first day of that plan year, if:

·         The cafeteria plan operates in accordance with guidance under Notice 2014-55; and

·         The employer informs participants of the amendment.

However, a cafeteria plan may be amended to adopt the new permitted election changes for a plan year that begins in 2014 at any time on or before the last day of the plan year that begins in 2015.