The Affordable Care Act (ACA) generally prohibits an employer from providing its highly compensated employees with health insurance that is more robust than the insurance it provides its rank-and-file employees. This nondiscrimination rule and its associated penalties have historically applied only to self-funded health plans. The Internal Revenue Service (IRS) is developing regulations to implement this new nondiscrimination rule as it relates to fully insured plans. The IRS has also announced that the rule, though currently in effect, will not be enforced until sometime after the regulations are adopted. Employers should immediately determine whether they currently offer health insurance that favors highly compensated employees and, if so, develop a strategy to amend the plan so that it is ACA-compliant.
The so-called nondiscrimination rules have been in effect for many years for self-funded health coverage. Consequently, a number of employers have used fully insured health plans to provide their highly compensated employees with enhanced health benefits. The ACA will no longer allow such an approach.
The ACA subjects fully insured plans to nondiscrimination rules that are “similar” to the nondiscrimination rules governing self-funded plans. The ACA, however, does not set forth any other specifics or standards for the new nondiscrimination rules. As a result, the IRS has delayed enforcement of the new rule until an unspecified amount of time after the implementing regulations are adopted. Notably, the nondiscrimination rule does not apply to fully-insured grandfathered plans and health plans that are not subject to the ACA (e.g., retiree-only plans).
Non-discrimination rules generally provide that self-funded plans are discriminatory only if highly compensated employees are eligible for the plan or if they provide benefits to highly compensated employees in excess of those provided all other employees. A highly compensated employee is anyone who is (i) one of the five highest paid officers, (ii) a 10%-or-more shareholder, or (iii) among the highest paid 25% of all employees. Since there are many unanswered questions about how these rules currently apply to self-funded health plans, the IRS has refrained from simply extending the current rules to fully insured plans.
The penalties for providing discriminatory benefits differ significantly depending upon whether the plan is self funded or fully insured. The benefits employees receive through a self funded health plan are not included in their taxable income, as long as the health plan does not discriminate in favor of highly compensated employees. If a self funded health plan does discriminate in this manner, the value of the benefits received by an executive in excess of the benefits offered to all other employees is included in that executive’s taxable income. There is no penalty for the sponsoring employer.
In the case of a fully insured plan that is discriminatory, the ACA subjects the sponsoring employer to monetary penalties of up to $100 per day multiplied by the number of non-highly compensated employees, up to a maximum of $500,000 per year. It appears that an employee would have a private right of action pursuant to ERISA to compel the sponsoring employer to provide nondiscriminatory benefits. There are no penalties imposed on the highly compensated employees.
As the IRS continues to develop new nondiscrimination regulations for fully insured plans, employers should review their health insurance for discriminatory terms and begin to develop compliance protocols for any plans that appear discriminatory.