Beginning in 2015, certain employers that fail to offer affordable health insurance that provides minimum value to their full-time employees and their dependents may incur substantial Employer Shared Responsibility penalties under the Affordable Care Act (“ACA”). We previously wrote about the importance of properly classifying workers as employees or independent contractors to assure ACA compliance. In this post, we discuss another significant aspect of ACA and retirement plan compliance – knowing the employer’s controlled group.
Shared Responsibility and Controlled Groups
Pursuant to special transitional relief, employers that have fewer than 100 full-time and full-time equivalent employees (“FTEs”) in 2014 and meet certain additional criteria will not be subject to the Shared Responsibility penalties in 2015. Starting in 2016, the Shared Responsibility rules will apply to employers with 50 or more FTEs. When counting an employer’s FTEs to determine whether the Shared Responsibility provisions apply, the Internal Revenue Code (the “Code”) requires the employer to include not only its own employees, but also the employees of each member of the employer’s “controlled group”. An employer that fails to count the FTEs of its controlled group members may erroneously determine that it is exempt from the Shared Responsibility penalties, creating significant compliance issues.
Retirement Plans and Controlled Groups
An employer that sponsors a qualified retirement plan, such as a Code Section 401(k) plan, also needs to be fully aware of its controlled group structure. For retirement plan sponsors, controlled group status affects many aspects of plan administration and compliance, including (but not limited to) eligibility, compensation limits, service crediting, nondiscrimination testing, minimum participation requirements, and filing requirements. In a worst-case scenario, the failure to account for an employer’s controlled group in the operation of a retirement plan could result in plan disqualification.
What is a Controlled Group?
Controlled groups are described in Code Sections 414(b) and (c) and applicable regulations, and may include two or more corporations or unincorporated trades or businesses. Controlled groups can take one of three forms:
- a “parent-subsidiary” group, in which at least 80% of each entity (except the common parent) is owned by another entity, and the common parent entity owns at least 80% of at least one entity in the group;
- a “brother-sister” group, in which the same five or fewer individuals, trusts or estates collectively own both a “controlling interest” (at least 80%) and have “effective control” (more than 50%, but counting only ownership that is identical for each entity) of two or more entities; and
- a “combined” group, consisting of a parent-subsidiary group and a brother-sister group, where one parent entity is both the common parent of the parent-subsidiary group and a member of the brother-sister group.
Even where a controlled group does not exist, an “affiliated service group” may exist under Code Section 414(m). Affiliated service group rules are complex and generally apply to two or more entities connected by the provision of management or other services. These rules may cause entities that are not members of the same controlled group to nevertheless be combined for many health and retirement plan purposes.
Both controlled and affiliated service group rules are further complicated by intricate constructive ownership rules, which can deem an individual to be the owner of an interest not directly held by such individual (for example, individuals may be deemed to own stock held by their family members).
Changes in ownership and service arrangements between employers may create and break controlled and affiliated service groups, so employers should carefully consider the effect of planned corporate changes on their benefit plan administration.
What to Do Next
There is still time for employers to determine their controlled and affiliated group structure to ensure ACA and retirement plan compliance. Employers should work with their benefits or other tax attorneys when performing complex controlled and affiliated service group analyses.