The Patient Protection and Affordable Care Act of 2010 (PPACA or the Act), which was upheld by a 5–4 margin by the U.S. Supreme Court in July 2012 in National Federation of Independent Business, et al. v. Sebelius, 567 U.S., 132 S.Ct. 2566 (2012), will cause some immediate and major impacts to our nation’s health care system and to the actions of both federal and state governments. While this issue is a federal one, it will even impact how some states manage their budgetary constraints.
It is important to note that Chief Justice John Roberts Jr., the author of the majority opinion, did not uphold PPACA based on the Commerce Clause, as the Obama Administration had wanted, but held that the individual mandate was constitutional as a tax. As a result, instead of regulating existing commercial activity, the individual mandate compels individuals to purchase a product on the grounds that their failure to do so affects interstate commerce. Another way to view this would be to say a business or an individual has the “right” not to purchase health insurance coverage; but if they exercise that “choice,” they face a tax.
Providing health insurance to employees has become a significant struggle over the past decade, especially for smaller businesses. Then House Speaker Nancy Pelosi said at a meeting of the National Association of Counties on March 9, 2010: “We have to pass the bill so that you can find out what is in it.” With the PPACA now the law of the land, “what is in it” is revealed in 3,256 pages of legislative text, counting the 858 pages of the reconciliation bill. Along those lines, it will be important for employers to understand the law’s key provisions, when they take effect and what they will or could mean to how businesses are operated.
Employers That Must Obtain Coverage Under the Act
Generally, PPACA applies to employers with 50 or more full-time employees – those who average 30 or more hours per week. This is five hours fewer than the definition provided by the U.S. Bureau of Labor Statistics: “persons who work 35 hours per week.” For purposes of this Act, full-time is now defined as “any employee [who] works an average of 30 or more hours a week for a one-month period.”
Also, employers are required to provide so-called “minimum essential” and “affordable” coverage. Many smaller employers are not paying attention to the law because they have fewer than 50 full-time employees. However, there is more than one way to reach the 50-employee threshold. Unlike the definition provided by the Small Business Administration (SBA), which classifies small businesses by maximum number of employees, with a low range from 100 to 500 or by revenue averaged over a three-year period, PPACA selects 50 as the number for triggering application. There is no explanation in the Act as to why 50 was selected versus selecting employers based on a higher number of employees or a revenue model. Therefore, many employers classified as small businesses by the SBA are subject to the provisions of the PPACA.
Moreover, part-time employees are included in the 50-employee calculation as “partial employees” for determining whether the employer has 50 employees, so 50 employees really means 50 full-time equivalents (FTEs). For example, if your company has 25 full-time employees and 50 half-time employees, your company in effect has 50 FTEs and would be subject to a penalty if health care coverage is not provided. Thus, given that many employers use part-time employees, the new health care reform legislation may affect them or cause them to change their staffing models.
Some companies separately incorporate their various business units for a variety of corporate and liability purposes. For purposes of the Act in counting employees, IRS and ERISA control-group principles apply. Thus, parent, brother and sister companies are counted as one. For example, if two restaurants with 25 FTEs are separately incorporated but owned by the same company, person or other “control group,” those properties meet the 50-FTE threshold. This means companies and owners must carefully count the number of actual employees to see if the 50-FTE threshold is met.
Minimum Essential and Affordable Coverage
As to the meaning of “minimum essential” and “affordable” coverage as defined under the Act, minimum means 60 percent of the actuarial value of the cost of the benefits and affordable means that the premium for the coverage paid by the individual employee cannot exceed 9.5 percent of the employee’s household income.
As defined, the minimum essential and affordable threshold is met when (1) a “Yes” response is given to the question Does the insurance pay for at least 60 percent of covered health care expenses for a typical population? and (2) a “No” response is given to the question Do any employees have to pay more than 9.5 percent of family income for the employer coverage? Therefore, employers that meet the 50-FTE level will have to have competent accountants or other personnel to make sure the coverage offered meets the standards under these definitions.
Small employers that have fewer than 50 FTEs are not required to offer health insurance coverage; however, those that do offer coverage must comply with several new requirements. For example, health care plans under the Act (1) cannot exclude coverage for preexisting conditions, (2) must cover adult children up to age 26 and (3) must not impose annual or lifetime limits on certain benefits. In addition, rescissions (the unmaking of a contract between parties) are prohibited by all health plans, even grandfathered plans, except in cases involving fraud, nonpayment of premiums, or intentional misrepresentation of material facts under the terms of the health plan.
The Act also imposes new standards on insurers. It requires that at least 80 percent of premiums be applied to medical care for subscribers covered by individual health insurance plans and small employers, and at least 85 percent of premiums must be applied to medical care for subscribers covered by large (more than 50 FTEs), employer-based health plans. Insurers that do not meet these requirements must issue rebates to subscribers. This provision applies to all plans except self-funded plans. Several states such as California have already put the federal minimum medical loss ratio requirement into state law.
Small businesses with fewer than 25 FTEs have been eligible for a tax break if they cover at least half the cost of health insurance. However, only businesses with fewer than 10 FTEs and average salaries of $25,000 or less are eligible for the full credit. Currently, the full credit is 35 percent of the employer’s contribution toward an employee’s insurance premium. As the operation’s size and average wage amount goes up, the tax credit decreases. Once the business reaches 25 FTEs or $50,000 in average salaries, the credit is completely phased out.
Incentives for Small Businesses
The Act provides several incentives for small employers that choose to offer coverage. The Act simplifies cafeteria plan rules and provides grants to small employers to establish workplace wellness programs. As to the small employer tax credit, by 2014 all states must establish health insurance exchange programs, the purpose of which is to make it easier for small employers to obtain and provide health insurance coverage for employees.
In addition, small businesses that buy through such exchanges can get a bump in the tax credit up to 50 percent of an employer’s contribution. However, the small employer tax credit is available only for qualified health plan coverage through an exchange, and an employer may receive the credit only for a maximum period of two (2) consecutive years.
Timeline of Key PPACA Provisions
- Employer reporting of insurance costs on Form W-2. Some believe this is a preamble to taxing health benefits.
- Narrower medical expense deduction. Currently, those facing high medical bills are allowed a deduction for medical expenses to the extent those expenses exceed 7.5 percent of adjusted gross income (AGI). Under the Act, the deduction applies to expenses that exceed 10 percent of AGI.
- Flexible spending account (FSA) cap (special needs kids tax). The Act imposes a cap on FSAs of $2,500 (currently unlimited) on the amount that can be deposited into these accounts. The cap will be indexed for inflation after 2013. Under tax rules, FSAs can be used to pay for education of special needs children, which many families with special needs children do. The tuition cost of such schools can easily exceed $15,000 per year. Also, the Act will exclude use of FSAs for over-the-counter drugs, unless the drug is “prescribed” or is insulin.
- Elimination of tax deduction for employer-provided retirement prescription drug coverage in coordination with Medicare Part D. The change increases the employer’s cost of providing prescription drug coverage to retirees. NOTE: Employers today must include the present value of future taxes as a current liability charged against earnings, immediately impacting employer finances.
- A $500,000 annual executive compensation limit for health insurance executives.
- Insurance exchanges. New state-based marketplaces will offer small businesses and people without employer coverage a choice of “affordable” health plans that meet new essential benefit standards.
- Individual mandate tax. Anyone not purchasing qualifying health insurance must pay an income surtax. In 2014, an individual will pay the greater of 1 percent of AGI or $95; in 2015, 2 percent or $325; and in 2016, 2.5 percent or $695 ($2,085 for families).
- Employer mandate tax. This applies to employers with more than 50 FTEs. Businesses with 51 or more FTEs will be fined $2,000 per employee (excluding the first 30 employees) if they do not offer coverage for employees who average 30 or more hours per week. NOTE:There is no penalty for part-time employees not offered coverage. As a practical matter, this means that the penalty is not based on the FTEs but rather on actual full-time employees. This means a 50-FTE employer could be exempt from the tax penalty if it has only 30 actual full-time employees and the rest are part-time employees.
- As an example, a retailer has 25 full-time employees and 50 part-time employees, equaling the trigger of 50 FTEs. The retailer would be subject to the penalty if it does not provide health care coverage. However, the penalty would likely be zero because the $2,000 per employee tax does not start until the thirty-first actual full-time employee is hired, and the retailer only has 25 actual full-time employees. This could mean that some 50-FTE employers that are subject to penalty may end up owing no penalty.
- Excise tax on comprehensive health insurance plans. There is a 40 percent excise tax on employer-paid premiums for so-called “Cadillac” health insurance plans that typically are fully or largely paid by employers. The 40 percent excise tax will apply to the aggregate value of employer-sponsored health plan coverage that exceeds $10,200 for self-only coverage and $27,500 for family coverage. This is applicable to both insured and self-insured plans. Also, the thresholds could be (1) increased in 2018 if the actual growth in U.S. health care costs exceeds expected growth or (2) adjusted (a) to reflect age and gender of the population covered; (b) for retired, non-Medicareeligible individuals; and (c) where the majority of the employees in the plan are engaged in certain high-risk professions.
State Health Care Exchange Overview
State-based exchanges or marketplaces, key components of the PPACA, are places where individuals and small businesses will be able to shop for coverage. States have the option of operating their own exchange, partnering with the federal government, or declining to operate an exchange and leaving it to the federal government to establish an exchange in that state. By October 1, 2013, the exchanges are to be ready to enroll consumers and must be fully operational on January 1, 2014.
The approaches that states have taken regarding the exchanges vary greatly. For example, in 2010, California passed legislation and developed the California Health Benefit Exchange, identified as a “new marketplace” authorized by the Act. The California exchange is its own, self-supporting entity within the state government, governed by a five-member unpaid board of directors. The exchange in California became operational in January 2011 and has been working actively to design and develop the infrastructure necessary to implement the new health coverage marketplace. Other states that have established state-based exchanges include Connecticut, New York, the District of Columbia, Maryland, Massachusetts, Nevada and New Mexico. Of the state-established exchanges, some will be active purchasers of insurance, such as California and Massachusetts, while others will serve as clearinghouses, such as Colorado, Nevada and Maryland. As of November 2012, several states had still not decided which model to use, including New York, Minnesota and Kentucky.
Other states have elected to adopt a state-federal partnership exchange, recognizing the difficulty in building a fully state-based exchange before January 2014.
Under this model, there will be combined management of exchange functions with states opting to operate only certain plan management functions, such as Medicaid and the Children’s Health Insurance Program. The federal government will assume management of the programs that the state elects not to manage. To date, several states have decided to pursue a federal-state partnership exchange, including Arkansas, Delaware, Illinois, Michigan, North Carolina and Ohio.
In contrast, many states have opted not to establish an exchange, leaving it to the federal government to facilitate the exchange. In those states, the U.S. Department of Health and Human Services will assume primary responsibility for operating the exchange. For example, Texas Governor Rick Perry called the exchanges “brazen intrusions into the sovereignty of our state.” As of December 2012, 24 states have declared that they will not create a state exchange or enter into a partnership exchange, including Texas, New Jersey, Pennsylvania, Florida and Indiana. While not much is known about how the federal exchanges will operate, the guidelines indicate a clearinghouse model will be adopted.
Checklist of Items for Employers to Consider
With the PPACA having withstood Supreme Court scrutiny as to the individual mandate, employers need to understand that compliance with the Act will be filing more than a few reports and audits of a company’s health insurance practices. With 2014 less than a year way, employers need to be proactive to ensure compliance when the law goes into full effect. It is important that employers be open to review, question and possibly amend their practices by 2014.
Preparation and communication will be critical for employers to protect themselves. Several areas to consider are as follows:
- Determine how PPACA applies to your business. The Department of Health and Human Services’ website has an interactive timeline to show when businesses will need to implement various aspects of the Act. Also, there are many websites funded by federal and state governments as well as private sites, such as The Henry J. Kaiser Family Foundation, that explain various aspects of the PPACA and the penalties that might apply.
- Decisions about workforce insurance needs must be made and analyzed quickly. Many employers are concerned about a sharp spike in health insurance costs. More individuals will need to be covered, given the fairly low threshold of 50 FTEs. Areas to be addressed as to insurance include (1) analyzing the costs and benefits of keeping an existing “grandfathered” health plan and making sure it meets all of the compliance requirements versus implementing a new health benefits plan, (2) deciding whether to seek group insurance through an insurance exchange, (3) addressing health plan needs for retirees and (4) addressing potential cost savings by offering a qualified employee wellness plan that may harm workers who do not participate. It will be important for employers to work with qualified insurance professionals to make sure their options are appropriately addressed.
- There are new reporting requirements to the IRS and other agencies about health insurance provided for the workforce under PPACA. As of 2012, employers must report on the employees’ W-2s the value of health insurance provided to the employee. At this point, employers would be well-advised to put into place procedures to capture and retain employee data and organize it in a useable fashion for reporting to the government agencies.
- As with any significant employee benefits change, it is vitally important that employers communicate with their employees and provide education to the workforce about what to anticipate with the PPACA. Topics might include information on the changes to employees’ flexible spending accounts, prescription drug care and health care costs. Already, the Act requires employers to provide to their employees a detailed summary of coverage and to let employees know that the cost of insurance will appear on the employees’ W-2 forms.
- Most importantly, employers need to understand what the individual mandate is; the type of health insurance that must be offered when there are more than 50 FTEs and more than 30 actual full-time employees (someone who works 30 or more hours a week); and the potential penalties for failure to comply with the Act. As set forth above, a “large employer” will pay a tax of $2,000 per full-time employee above 30 employees. Decisions will have to be made as to whether the employer will provide approved health care coverage to all full-time employees or cut their health care program entirely and pay the penalty tax. Other employers that have met the criteria of a “large employer” may move toward hiring part-time employees to cover work that under other circumstances would have been given to full-time employees. Some employers may choose to hire more temporary workers with hours below the 30-hours-aweek threshold.
- In August 2012, the federal government issued guidance under the Act that may greatly reduce employer penalties. The guidance addressed the time period the government would use to determine if an employer meets the requirement under the mandate to provide mandatory health care – a “look-back” period. Specifically, a “look-back” period of up to 12 months will be used as a measurement period to determine if an employee is full-time. Under this guidance, only employees who are still working full-time after 12 months would count when counting employer penalties under the PPACA. That means employers attempting to avoid obligations under the Act would be well-advised to restructure their staffing now so they can in good faith rely on the position that they did not have sufficient full time employees to qualify for the mandate or be subject to tax penalties. Employers will be allowed to rely on this guidance until at least the end of 2014.
With the election over and the Supreme Court upholding the mandate as constitutional, PPACA is the law of the land, and its key provisions will be slowly implemented over the next few years, absent other judicial challenges. Companies need to be proactive and implement a strategic plan to comply with the Act and avoid unintended fines. This entails formulating a compliance plan, including audits, a staffing plan and data capture of employees.
All of these procedures should be synergized with other practices, procedures and policies so that the employer is prepared for the fast-approaching changes and implementation required under the Act.
At this time, we will continue to monitor the progression and implementation of the PPACA and work with the companies to understand and comply with the regulations.