The Internal Revenue Service (IRS) has issued guidance indicating that health reimbursement arrangements (HRAs) that do not comply with the Affordable Care Act (ACA) are subject to severe penalties.
The IRS issued Notice 2013-54 (http://www.irs.gov/irb/2013-40_IRB/ar11.html), offering guidance on the effect of the ACA on certain health care arrangements. Although the guidance also addresses flexible spending accounts (FSAs) and employer payment plans (EPPs), the focus of this alert is limited to the impact that the ACA may have on unsuspecting employers that have an HRA with their employees.
IRS Notice 2013-54 describes an HRA as an arrangement by which the employer reimburses employees for qualified medical care expenses and provides coverage up to a maximum dollar amount for the period.
On November 6, 2014, the Department of Labor and U.S. Treasury collaborated to release FAQs that are more restrictive than previous guidance. Specifically, the FAQs state:
Q1: My employer offers employees cash to reimburse the purchase of an individual market policy. Does this arrangement comply with the market reforms?
No. If the employer uses an arrangement that provides cash reimbursement for the purchase of an individual market policy, the employer’s payment arrangement is part of a plan, fund, or other arrangement established or maintained for the purpose of providing medical care to employees, without regard to whether the employer treats the money as pre-tax or post-tax to the employee [emphasis added]. Therefore, the arrangement is group health plan coverage within the meaning of IRC § 9832(a), Employee Retirement Income Security Act (ERISA) § 733(a) and PHS [Public Health Services] Act § 2791(a), and is subject to the market reform provisions of the Affordable Care Act applicable to group health plans. Such employer health care arrangements cannot be integrated with individual market policies to satisfy the market reforms and, therefore, will violate PHS Act §§ 2711 and 2713, among other provisions, which can trigger penalties such as excise taxes under § 4980D of the Code. Under the Departments’ prior published guidance, the cash arrangement fails to comply with the market reforms because the cash payment cannot be integrated with an individual market policy. See Department of Labor FAQs: http://www.dol.gov/ebsa/faqs/faq-aca22.html (11/6/2014); also see http://www.irs.gov/Affordable-Care-Act/Employer-Health-Care-Arrangements.
According to Notice 2013-54 and the above FAQs, an HRA that covers more than one employee is deemed a group health plan and subject to the requirements under the ACA which includes, among other things, a prohibition on annual and lifetime limits; and a prohibition on cost-sharing for preventive services. Consequently, it appears an S corporation that reimburses health insurance premiums for more than one shareholder/employee may also be considered a group health plan and subject to market reforms. However, no specific guidance has been provided regarding S corporations and their reimbursements of health insurance premiums for more than 2% shareholders.
Notwithstanding the fact that the ACA does not require small employers (fewer than 50 employees) to offer health insurance to their employees, it appears from Notice 2013-54 and the Department of Labor FAQs employers providing an HRA may be subject to severe penalties. Under prior law, reimbursements for employees’ share of medical insurance premiums were treated as employer contributions to the health plan — deductible by the employer and excludible by the employee. Now, according to the IRS and Department of Labor guidance, if an employer (with two or more employees) provides this type of HRA for its employees on or after January 1, 2014, the employer could be subject to severe penalties. Specifically, under IRC § 4980D, such employers are subject to an excise tax (i.e., penalty) as high as $36,500 ($100 a day) per individual. Under the rules, employers are required to self-assess and report § 4980D penalties on IRS Form 8928. Thus, the chance that many small businesses offering an HRA will be caught off-guard by these penalties is high.
However, the IRS offers some relief under § 4980D. No excise tax will be imposed for any period for which the IRS is satisfied:
- The person otherwise liable for the tax: did not know about the failure, and exercising reasonable due diligence, would not have known about the failure.
- The failure was due to reasonable cause and not willful neglect; is corrected within 30 days of the date a person knew of a failure, or exercising due diligence would have known of a failure; and is corrected before notice of examination.
- Correction requires retroactively undoing the failure to the extent possible, and placing the affected persons in at least the same financial position they would have been had the failure not occurred (See instructions to IRS Form 8928).
- Also, the IRS has the discretion to waive part or all of the excise tax for a failure due to reasonable cause and not to willful neglect, to the extent that payment would be excessive relative to the failure.
The self-reporting guidance is in the Form 8928 instructions and requires employers to file the form if they are liable for taxes. Some commentators have suggested that Form 8928 need only be filed where tax is due and because no excise tax is due if the taxpayer qualifies for a waiver, one might conclude that Form 8928 need not be filed. However, one should consider that the clock for the statute of limitations on assessment may not start running until Form 8928 is filed.
- Practitioners should notify employers who may be impacted of the DOL’s and Treasury’s position regarding the ACA and HRAs, as well as the penalties for noncompliance, which may be as much as $36,500 per individual.
- In the absence of further guidance, impacted employers should be advised to not reimburse health care premiums outside of an ACA-compliant employer-provided group health care plan; however, nothing prohibits employers from characterizing additional employee compensation as wages. As such, it would seem advisable to treat such reimbursements as additional compensation, and modify payroll tax reporting accordingly.
- Those employers who may not be in compliance should be advised to consult with their payroll advisor or plan administrator regarding compliance and corrective measures.
- If it is determined that a failure occurred, practitioners should advise clients of their obligation to self-report and file Form 8928, prepare Form 8928, and, if applicable, apply the appropriate waiver. While it is unclear whether Form 8928 must be filed where the taxpayer qualifies for a waiver and it is determined that no tax is due, the client should be advised that the statute of limitations may not begin to run until the form is filed.
- Instructions to Form 8928: http://www.irs.gov/pub/irs-pdf/i8928.pdf
- Form 8928: http://www.irs.gov/pub/irs-pdf/f8928.pdf
An article in the Journal of Accountancy titled “Drawing the line: Providing tax advice related to the Affordable Care Act” provides a good framework for the tax practitioner to work within when advising clients on issues related to the ACA. The article can be found at: http://journalofaccountancy.com/issues/2015/jan/affordable-care-act-tax-advice.html.
Note: For your convenience we have included: Client Notification Letter — Affordable Care Act & Health Reimbursement Arrangements.
Client Notification Letter — Affordable Care Act & Health Reimbursement Arrangements
RE: Affordable Care Act & Health Reimbursement Arrangements
The IRS has issued guidance indicating that health reimbursement arrangements (HRAs) that do not comply with the Affordable Care Act (ACA) are subject to severe penalties.
An HRA is an arrangement whereby the employer reimburses the employee for part or all of qualified medical care expenses and provides coverage up to a maximum dollar amount for the period covered.
Generally, small employers are not required to provide health insurance to their employees. However, many small employers provide cash reimbursement for employees who purchase an individual policy. Under prior law, reimbursements for the employee’s share of medical insurance premiums were treated as contributions by the employer to the health plan and, thus, deductible by the employer and excluded from wages by the employee. Recent guidance indicates that beginning in 2014, employers with two or more employees may be subject to severe penalties were they to use such an arrangement.
Under the current guidance, an HRA that covers two or more employees is deemed a group health plan and is subject to ACA requirements which include, among other things, a prohibition on annual and lifetime limits, and a prohibition on cost-sharing for preventive services.
Although there are limited exceptions, IRS guidance makes clear that HRAs, HSAs, and most other pre-tax arrangements that reimburse insurance premiums are nonqualifying. These arrangements are deemed nonqualifying whether or not the coverage purchased by the employee complies with the ACA rules. Nonqualifying arrangements are subject to penalties as high as $100 per day, per individual. The penalty is an excise tax that is required to be self-reported on Form 8928. In many circumstances a waiver of the tax may be permitted and no tax will be due upon filing.
Beginning January 1, 2014, for an employer to be able to provide a deductible health insurance fringe benefit to an employee, the health plan must be sponsored and paid for by the employer on a non-discriminatory basis. The employee may pay a portion of the coverage through a pre-tax flexible spending account (FSA), or absent FSA participation, on a post-tax basis.
Thus, an employer has the following options:
- Offer an employer-sponsored plan,
- Offer nothing, or
- Offer nothing and increase taxable (perhaps, even gross-up) wages
In the absence of further guidance from the Department of Labor or Treasury, entities with two or more employees should avoid reimbursement of health care premiums outside of an employer-provided group health care plan.
Employers with compliance questions or those who utilized an HRA in 2014 are encouraged to consult with their payroll advisor or plan administrator regarding corrective measures. Also, we will need to be notified of non-compliance with the ACA in order to accurately complete Form 8928 and, if applicable, apply the waiver.