The recently enacted health care reform legislation in the United States (collectively referred to as the Act) imposes many new obligations and expenses on group health plans and presents some critical issues that should be carefully considered by parties to a merger, stock or asset purchase, or other business combination (M&A transaction). Specifically, while certain health plans are considered “grandfathered” from many provisions of the Act (specifically, group health plans or individual health insurance coverage that was in effect on March 23, 2010), this grandfathered status may be lost in connection with an M&A transaction or may be difficult to maintain following such a transaction.

Grandfathering will automatically be lost and new non-grandfathered health plans will need to be implemented following the closing of certain M&A transactions, such as an asset purchase transaction where the seller’s benefit plans are not assumed, the purchase of a subsidiary whose employees are covered under the parent’s health plans, or a transaction undertaken by a financial buyer that does not have existing health plans into which a seller’s employees can be enrolled. In addition, a plan will lose its grandfathered status in connection with a merger, acquisition or similar business restructuring the primary purpose of which is to cover new individuals under the grandfathered plan. As a result, even in an M&A transaction in which the buyer assumes the seller’s health plans or plans to enroll a seller’s employees in its existing health plans, continued grandfathering will depend on the facts and circumstances of the transaction.

The rules applicable to grandfathered plans also limit the changes that may be made under a health plan in order to maintain grandfathered health plan status. As a result, buyers may be severely limited in their ability make changes to any assumed, grandfathered health plans following the closing of an M&A transaction.

Grandfathered plans will avoid certain potentially costly requirements under the Act, including:

  • Compliance with the non-discrimination rules in the Act, which provide that a plan may not discriminate in favor of highlycompensated employees with respect to coverage or premiums. If a grandfathered plan does not satisfy this requirement, the loss of grandfathered status could require the expansion of coverage to a sufficient number of non-highly compensated employees to allow the plan to meet the discrimination tests  
  • Compliance with the limits on annual cost sharing, which provide that an employee’s annual cost may not exceed US $2,000 individually or US $4,000 for family coverage 
  • Provision of certain preventive care and immunization benefits without cost sharing  
  • Implementation of a new expanded, potentially costly appeals process  
  • Non-grandfathered plans are expected to have higher premium costs going forward as insurance companies anticipate the new requirements of the Act  

These costs need to be weighed against the costs an employer may incur in order to preserve grandfathered status for a plan, which may include:  

  • Increased premiums resulting from staying with the current insurer where other insurers are offering lower premiums for similar coverage  
  • Inability to shift additional cost responsibilities to participating employees due to limitations on permissible plan changes  
  • Maintaining health plans that the employer might otherwise abandon because of their cost  

Any party to an M&A transaction should carefully consider the grandfathering rules under the Act. In addition, buyers should weigh the costs and design limitations of maintaining grandfathered status against the costs of complying with the Act and the additional design flexibility of nongrandfathered status.