IRS Expands on Employer Opt-Out Payment Rules

Practical Law Legal Update w-002-7573 (Approx. 7 pages)

IRS Expands on Employer Opt-Out Payment Rules

by Practical Law Employee Benefits & Executive Compensation

Background on the PTC and Opt-Out Payments

Under the ACA, individuals who purchase coverage under a qualified health plan (QHP) through the ACA exchange may claim a PTC (26 U.S.C. § 36B; see Article, Health Insurance Exchange and Related Requirements Under the ACA: Premium Subsidies for Individuals for Health Insurance and Cost-Sharing Subsidy). Advance payments of the PTC are available to eligible individuals.

Large employer are subject to employer mandate penalties for any month for which a full-time employee receives a PTC in connection with enrollment in a QHP through the exchange (see Employer Mandate Toolkit). However, an employee is not eligible for the PTC for any month for which the employee is eligible for coverage under an employer-sponsored plan that provides minimum value and is affordable (see Legal Update, IRS Final Regulations Clarify Premium Tax Credit Rules). The affordability of employer coverage for ACA purposes is the topic of numerous statutory provisions, regulations, and related pieces of guidance. In general, employer-sponsored plan is treated as affordable for an employee if the amount of the employee's required contribution for self-only coverage is not more than a set percentage of the employee's household income.

Why the Calculation of Opt-Out Payments Matters

How opt-out payments to decline an employer's health coverage impact the calculation of affordability of an employer's offer of coverage is relevant:

To employers that are subject to the ACA's employer mandate, in determining whether the employer must pay a penalty under Code Section 4980H(b) (26 U.S.C. § 4980H(b)) (see Employer Mandate Toolkit and Practice Note, Employer Mandate Under the ACA: Two Types of Employer Mandate Penalties).
To an employee and members of the employee's expected "tax family" (see Conditional Opt-Out Payments and "Eligible Opt-Out Arrangements") in determining:
- their eligibility for a PTC; or
- whether an individual is exempt under the ACA's individual mandate (see Affordable Care Act (ACA) Overview: Individual Mandate).

Opt-Out Payments Under IRS Notice 2015-87

In determining whether employer-sponsored coverage is affordable to an employee, an employee's required contribution for the coverage includes the amount by which the employee's salary would be reduced to enroll in the coverage (see Practice Note, Cafeteria Plans). In Notice 2015-87, the IRS addressed determining the affordability of an employer's offer coverage for purposes of the PTC, individual mandate, employer mandate, and related ACA information reporting requirements.

Under Notice 2015-87, an opt-out payment:

Is available only if an employee declines coverage under the employer's plan, including waiving coverage in which the employee otherwise would be enrolled.
Cannot be used to pay for coverage under the employer's plan.

The IRS indicated in Notice 2015-87 that opt-out payments available under an unconditional opt-out arrangement should be treated the same way as salary reduction contributions for PTC and individual mandate purposes, and related employer mandate and information reporting consequences.

An unconditional opt-out arrangement is one that provides payments:

Conditioned solely on an employee declining coverage under employer coverage.
Not conditioned on an employee satisfying other meaningful requirements involving the provision of health care to employees (for example, providing proof of coverage through a plan of a spouse's employer).

The IRS reasoned that in both the salary reduction and opt-out contexts, an employee may purchase the employer coverage only by forgoing a specified amount of cash compensation that the employee would otherwise receive (that is, salary, in the salary reduction context, or regarding opt-out payments, an equal amount of other compensation).

Proposed Regulations Expand on Notice 2015-87

Under the IRS proposed regulations, individuals may treat opt-out payments available under unconditional opt-out arrangements as increasing an employee's required contribution for purposes of the PTC and individual mandate. This rule applies:

Until the applicability date of final regulations addressing opt-outs.
For plan years beginning before 2017.

For the same period, an individual who declines an employer's health coverage and can show that he meets the conditions for receiving an opt-out payment (for example, demonstrating that the employee has coverage under a spouse's health plan) may treat the amount of the conditional opt-out payment as increasing the employee's required contribution.

The proposed regulations adopt the Notice 2015-87 approach for opt-out payments made available under unconditional opt-out arrangements. As a result, the regulations provide that the amount of an opt-out payment made available to an employee under an unconditional opt-out arrangement increases the employee's required contribution.

Under Notice 2015-87, however, and for periods before final regulations on this issue apply, employers need not increase the amount of an employee's required contribution by amounts made available under an opt-out arrangement for ACA employer mandate and information reporting purposes (see Practice Notes, Employer Mandate Under the ACA: Overview and ACA Information Reporting: Forms 1095-C and 1094-C (Overview)).

As an exception to this rule, however, applicable after December 16, 2015, an employee's required contribution must include amounts made available under an "unconditional opt-out arrangement" adopted after December 16, 2015. An opt-out arrangement is not treated as adopted after December 16, 2015 in limited situations, for example, if a board, committee, or similar body or an authorized officer of the employer specifically adopted the opt-out arrangement before December 16, 2015.

Unconditional Opt-Out Arrangements Required Under CBAs

Clarifying an issue under Notice 2015-87, the proposed regulations indicate that an unconditional opt-out arrangement that is required under the terms of a collective bargaining agreement (CBA) in effect before December 16, 2015 is treated as having been adopted before December 16, 2015.

In addition, employers participating in the CBA need not increase the amount of an employee's required contribution by amounts made available under an opt-out arrangement for purposes of employer mandate penalties under Code Section 4980H(b) or information reporting (that is, under Code Section 6056 (Form 1095-C) (see Practice Notes, Employer Mandate Under the ACA: Two Types of Employer Mandate Penalties, ACA Information Reporting: Forms 1095-C and 1094-C (Overview) and ACA Information Reporting: Forms 1095-C and 1094-C Line Instructions).This rule applies until the later of either:

The beginning of the first plan year that begins following expiration of the CBA in effect before December 16, 2015 (disregarding extensions on or after December 16, 2015).
The applicability date of these IRS regulations regarding the ACA employer mandate and information reporting.

This treatment also applies to successor employers that adopt the opt-out arrangement before expiration of the CBA that was in effect prior to December 16, 2015 (setting aside extensions on or after December 16, 2015).

No De Minimis Exception

In its proposed regulations, the IRS declined to provide a de minimis threshold under which unconditional opt-out payment would be excluded from the employee's required contribution. The IRS reasoned that there was no statutory basis for a de minimis exception.

Conditional Opt-Out Payments and "Eligible Opt-Out Arrangements"

The proposed regulations address a rule under which the amount of an opt-out payment made available does not increase an employee’s required contribution if the opt-out payment is conditioned on the employee having MEC through another source (for example, a spouse's employer-sponsored plan). The IRS indicated that such a rule could be challenging in that employers generally do not have information about the existence and cost of other options available to an individual.

However, the proposed regulations provide that amounts made available under conditional opt-out arrangements are disregarded in determining an employee's required contribution if the arrangement satisfies certain conditions, referred to collectively as an "eligible opt-out arrangement" (EOA)). Otherwise the amounts must be taken into account.

Requirements for Eligible Opt-Out Arrangements

An EOA is an arrangement under which an employee's right to receive the opt-out payment is conditioned on the employee declining to enroll in the employer-sponsored coverage. The employee also must provide reasonable evidence that the employee and all other individuals for whom the employee expects to claim a personal exemption deduction for the tax year(s) that begin or end in the plan year to which the opt-out arrangement applies (referred to as the employee's "tax family") have or will have MEC (other than individual market coverage) during the period of coverage to which the opt-out arrangement applies.

An example of the reasonable evidence rule involves an employee whose expected tax family consists of the employee, the employee's spouse, and two children. To satisfy the reasonable evidence rule, the employee in this example must provide reasonable evidence that the employee, spouse, and children will have coverage under the group health plan of the spouse's employer for the period to which the opt-out arrangement applies. Reasonable evidence of alternative coverage may include the employee's attestation that the employee and all other members of the employee's expected tax family have or will have MEC.

The following requirements also apply regarding EOAs:

The arrangement must provide that any opt-out payment will not be made (and, in fact, is not made) if the employer knows or has reason to know that the employee or a member of the employee's expected tax family does not have (or will not have) the required alternative coverage.
Evidence of coverage must be provided at least every plan year to which the EOA applies.
The evidence must be provided a reasonable period before the start of the coverage period to which the EOA applies (see Timing of Reasonable Evidence of Alternative Coverage).

The proposed regulations do not address opt-out conditions other than those involving alternative coverage, and would not treat an opt-out arrangement based on other conditions as an EOA.

Timing of Reasonable Evidence of Alternative Coverage

The IRS offered additional guidance regarding the requirement that reasonable evidence be provided a "reasonable period" before the start of coverage to which the EOA applies. This rule is met if reasonable evidence (for example, an attestation) is obtained as part of an employer's annual open enrollment period that occurs within a few months of the start of the next plan year of the employer's coverage. Alternatively, an EOA could require evidence of alternative coverage to be provided later (for example, after the plan year starts). Doing so would allow the employer to require evidence that the employee and tax family members have already obtained the alternative coverage.

Subsequent Termination of Alternative Coverage

In general, the amount of an opt-out payment available under an EOA may continue to be excluded from the employee’s required contribution for the remainder of the coverage period to which the opt-out payment originally applied. This rule applies regardless of whether:

The alternative coverage subsequently terminates for the employee or a member of the employee's expected tax family.
The opt-out payment must be adjusted or terminated because of the loss of alternative coverage.
The employee must provide the employer notice of the loss of alternative coverage.

Lack of Annual Opportunity to Enroll

An individual is eligible for MEC through an eligible employer-sponsored plan if:

The individual had the opportunity to enroll in the plan.
The plan is affordable and provides minimum value.

According to the IRS:

There are situations in which individuals are not be allowed to decide whether to enroll in employer-sponsored coverage on an annual basis.
A lack of an annual opportunity to enroll in employer coverage should not limit an individual's ability to choose coverage options through the ACA exchange, including the ability to use the PTC.

As a result, the proposed regulations clarify that if an individual declines to enroll in employer-sponsored coverage for a plan year and does not have the opportunity to enroll in that coverage in later plan years, for purposes of section 36B, the individual is treated as ineligible for that coverage for years for which there is no enrollment opportunity.

Excepted Benefits and PTC Eligibility

Coverage under an eligible employer-sponsored plan, including coverage under most employer group health plans, is MEC. However, MEC does not include coverage that consists solely of excepted benefits as defined under the PHSA or implementing regulations (42 U.S.C. §300gg-91(c); see Legal Updates, DC Circuit: HHS Overreached on Excepted Benefits and Final Excepted Benefit Rules Address Limited Wraparound Coverage).

Health coverage consisting solely of excepted benefits is not MEC. As a result, individuals enrolled in a plan consisting only of excepted benefits must still obtain MEC to satisfy the ACA's individual mandate. The IRS's proposed regulations clarify that for PTC purposes, an individual is considered eligible for coverage under an employer-sponsored plan only if that plan is MEC. Therefore, an individual enrolled in (or offered) a plan consisting solely of excepted benefits is not denied the PTC by virtue of that excepted benefits offer or coverage. This clarification may be relied on for all tax years beginning after December 31, 2013.

IRS Expands on Employer Opt-Out Payment Rules | Practical Law