As discussed in our Client Alert of February 18, 2009, the American Recovery and Reinvestment Act of 2009 (the “Act”) provides a government subsidy for up to nine months toward the payment of premiums for continuation coverage offered under the Consolidated Omnibus Budget Reconciliation Act of 1985, as amended (“COBRA”). The Act’s premium subsidy is available for certain employees who are involuntarily terminated from employment during the period beginning September 1, 2008 and ending December 31, 2009, and for their qualifying dependents. Compliance with the Act is generally required by all employer-sponsored group health plans except Health FSAs, and implementation of the premium subsidy will require administrative and payroll changes by employers who sponsor such group health plans.
Your implementation of the COBRA premium subsidy procedures required by the Act presents the perfect opportunity to consider whether your group health plans are currently compliant with all other COBRA requirements. One oft-forgotten COBRA rule is that COBRA coverage applies to all group health plans an employer offers: it does not apply to only medical, dental, and vision coverage. In fact, COBRA coverage may also apply to other programs, such as a Health Flexible Spending Account (a “Health FSA”), which might not generally be considered a “group health plan,” as that term is used in everyday conversation. However, similar to the Act’s COBRA premium subsidy provision, COBRA continuation coverage under your plan’s Health FSA, if required, is not optional, and an employer’s failure to be compliant with COBRA’s requirements could be an extremely costly problem.
COBRA: Definitions Can Be Deceiving
COBRA amended the Employee Retirement Income Security Act of 1974, the Internal Revenue Code of 1986 (the “Code”) and the Public Health Service Act to require that employers (and other plan sponsors) who sponsor any “group health plan” must provide “qualified beneficiaries” with the right to temporary continuation of coverage under that plan at group rates when their coverage is lost due to the occurrence of certain “qualifying events.”
Some of COBRA’s terminology is vague enough that plan administrators must become quite familiar with the IRS and ERISA regulations that explain such terms in order to determine their proper meaning and application, as such terms are not used in everyday language. For example, the COBRA term “qualified beneficiary” refers to an individual covered by the group health plan on the day before the qualifying event who is an employee, an employee’s spouse, or an employee’s dependent child, and a “qualifying event” includes events such as the employee’s death, termination of employment (not due to gross misconduct) or a reduction of hours, divorce or legal separation, or loss of dependent child status.
However, the phrase “group health plan,” used frequently in non-COBRA settings, seems straightforward enough that many plan sponsors and administrators assume that it references only their medical, dental, and/or vision coverage. As a result, other benefits that are considered “group health plans” under the Code and ERISA definition of that term are often overlooked by plan sponsors and administrators. Similar to the terms “qualified beneficiary” and “qualifying event,” the definition of “group health plan,” and the specific determination of which “group health plans” the plan sponsor must offer COBRA continuation coverage for, can be a complex determination.
Considering the Regulatory Definition of “Group Health Plan”
ERISA Section 607 defines a “group health plan” as an “employee welfare benefit plan providing medical care (as defined in section 213(d) of the Internal Revenue Code of 1986) to participants or beneficiaries directly or through insurance, reimbursement, or otherwise.” This includes “any plan, fund or program…established or maintained by an employer…to the extent that such plan… was established or is maintained for the purpose of providing for its participants or their beneficiaries, through the purchase of insurance or otherwise… medical, surgical, or hospital care or benefits, or benefits in the event of sickness, accident, disability [or other enumerated benefits].” (ERISA Section 3(1)).
The Internal Revenue Code (the “Code”) definition of a “group health plan” in Section 5000(b)(1) is similar, in that it essentially includes any plan that is of, or contributed to by, an employer to provide ‘health care’ for the benefit of its employees or former employees. However, the regulations under that Section specifically enumerate that ‘health care,’ for purposes of the definition of “group health plan,” generally includes on-site care, as well as care provided through a cafeteria plan or other flexible benefit arrangement. (Treas. Reg. 54.4980B-2, Q/A-1(a)). Similarly, the regulations indicate that a plan can be a “group health plan” even if the employer does not contribute to that plan, so long as coverage under the plan would not be available for the same cost outside the plan.
Assuming that ERISA’s use of the term “medical care” and the Code’s use of the term “health care” mean roughly the same thing, what are some examples of plans which would be considered “group health plans” by COBRA?1 Here are some well-known and lesser-known examples:
- Medical plans, such as employer-sponsored coverage in a PPO or an HMO
- Dental plans
- Vision plans
- Cancer policies that provide medical benefits (not indemnity benefits)
- Prescription drug plans
- Certain individual policies of health insurance for the five plans listed above
- Health Flexible Spending Accounts (Health FSAs), generally
- Health Reimbursement Accounts (HRAs)
- Executive Medical Reimbursement Plans
- Drug or alcohol treatment programs and health clinics
- Wellness programs offering cholesterol screenings, flu shots, and other benefits
- Certain discount programs (such as a vision care discount program)
- Employee Assistance Programs (EAPs) that provide counseling or other medical care, and not just referral services
- Similarly, plans which do not provide medical care do not need to offer COBRA coverage, such as:
- Long-term care plans
- Accidental Death and Dismemberment (AD&D) plans
- Group Term Life Insurance plans
- Long-Term and Short-Term Disability (LTD and STD) plans
- Fixed-Indemnity or Hospital Indemnity plans
- Exercise/Fitness Centers or Programs
- On-Site facilities offering basic first aid during working hours
Where an employer is unsure whether COBRA coverage should be offered to qualified beneficiaries of a specific plan, the employer should consider whether the plan includes “medical” or “health” care, or simply promotes good general health without alleviating specific medical problems. Each employer-sponsored plan should be evaluated to determine if any component of the plan would provide medical care to the covered employees. For example, while an AD&D plan does not generally provide medical care, some AD&D plans include riders which would cover hospitalization: the hospitalization rider would be subject to COBRA coverage, even though the general AD&D plan would not. Similarly, some EAPs would be considered “group health plans,” while others would not: the critical distinction lies in whether the EAP offers medical care, such as free counseling sessions, or merely provides employees with referrals by non-counselors.
An Even More Complicated Determination: FSAs as “Group Health Plans” Under COBRA
A Health FSA is a benefit generally offered under a cafeteria plan which provides for the reimbursement of most medical expenses incurred by the employee (and/or their spouse and dependents). Generally, the employee will elect to contribute to an account a pre-tax portion of his or her salary, which is then withheld from wages on a prorated basis throughout the year and contributed to such account. The employee then uses that set-aside amount as reimbursement for eligible medical expenses incurred during that year. If, at the end of the plan year or, if applicable, at the end of the grace period, the employee has not submitted claims for reimbursement of all the money the employee elected to set aside, the employee loses that money and it reverts to the employer. This is generally known as the “use it or lose it” rule.
Because a Health FSA provides “medical/health” care by reimbursing employees for substantiated medical expenses, it is considered a “group health plan” for COBRA purposes. However, the determination of whether a plan sponsor must offer COBRA continuation coverage with respect to a Health FSA is more complicated than just the general determination that the plan must be a “group health plan.” Due to the unique application of the COBRA rules to Health FSAs, the plan sponsor’s determination of whether COBRA continuation coverage under a Health FSA should be offered to a qualified beneficiary must be made on an individual-by-individual basis as of the date of the qualifying event. Several of the more significant complications are described in more detail below.
COBRA Coverage Under a Health FSA Applies to Each Qualified Beneficiary Individually
As the general COBRA rules require, each individual qualified beneficiary is given his or her own opportunity to elect COBRA. However, the practical implications of this requirement for COBRA continuation coverage under an FSA can greatly complicate COBRA administration. For example, the IRS has informally remarked that in theory, each qualified beneficiary in a single family unit should be entitled to elect COBRA coverage for themselves individually.
Determining Whether the Plan Sponsor Must Offer COBRA Coverage to Health FSA Participants
As we have already explained, the general rule states that because a Health FSA is considered a “group health plan” under both ERISA and the Code, COBRA continuation coverage must be offered to qualified beneficiaries who were previously enrolled in the Health FSA prior to the qualifying event. The structure of a Health FSA may lead plan sponsors to wonder, however, why on earth a qualified beneficiary might elect to continue coverage under the Health FSA. The primary benefit of enrolling in a Health FSA is essentially to pay medical expenses using pre-tax amounts that have been deducted from the employee’s pay. This benefit would be unavailable to qualified beneficiaries electing COBRA coverage under a Health FSA after the participating employee’s termination of employment, thus cancelling out the tax benefit of utilizing the Health FSA. In addition, plan sponsors required to offer COBRA coverage under a Health FSAs also face potential abuse by qualified beneficiaries that might elect COBRA coverage under a Health FSA and receive reimbursement for their full remaining account balance for the plan year without continuing to make COBRA premium payments under the Health FSA.
It is likely that these two issues—the loss of the pre-tax benefit and the potential for abuse by former employees—represent the reasoning for Code regulations under which an employer may limit the circumstances in which it must offer COBRA coverage under a Health FSA. In many cases, the employer will not be required to offer COBRA continuation coverage under the Health FSA for any plan year after the plan year in which the qualifying event took place. Additionally, in some cases the employer will not be required to offer COBRA continuation coverage under the Health FSA at all. The IRS requirements for each plan year are complicated, but are generally described below.
Plan Years After the Qualifying Event
An employer-sponsored group health plan will not be required to offer COBRA continuation coverage available under its Health FSA for plan years after the qualifying event when the following two conditions are met:
1. Benefits under the Health 1. FSA are “excepted benefits” under the Health Insurance Portability and Accountability Act of 1996 (“HIPAA”). This means that:
- The maximum benefit payable under the Health FSA to any participant cannot exceed two times the participant’s salary reduction election (or, if greater, the amount of the employee’s salary reduction election plus US$500); and
- Other group health coverage is available to Health FSA participants that are employees, by virtue of their employment.
2. The maximum amount that the Health FSA requires to be paid for a year of COBRA continuation coverage equals or exceeds the salary reduction amount elected by the participant.
Using these requirements, most plan sponsors will not be required to offer COBRA continuation coverage under a Health FSA to qualified beneficiaries after the year in which the qualifying event occurs.
For example, employers who contribute less than US$500 to the participant’s FSA, and who offer major medical coverage as another group health plan, provide “excepted benefits” under the Health FSA as required by the first condition. Similarly, most Health FSAs will also meet the second condition, as most plans either charge the exact amount that the qualified beneficiary had elected, or 102 percent of such amount, as the COBRA premium.
Plan Year of the Qualifying Event
In some circumstances, the plan sponsor may not even be required to offer COBRA continuation coverage under a Health FSA to the qualifying beneficiaries for the remainder of the plan year in which the qualifying event took place. Upon each qualifying event, the employer should evaluate the need to offer COBRA coverage in light of a formula given in the IRS regulations. Using data as of the date of the qualifying event, the plan sponsor should compare the following two amounts:
- Amount One: The qualified beneficiary’s salary reduction election amount for the plan year, minus the amount the qualified beneficiary had submitted in reimbursable expenses as of the date of the qualifying event; and
- Amount Two: The maximum amount that the Health FSA can require to be paid for COBRA continuation coverage for the remainder of the year, which is equal to 102 percent of the participant’s elected contribution for the year multiplied by 1/12, then multiplied by the number of months remaining in the Health FSA’s plan year.
Where Amount Two is greater than Amount One, the plan sponsor will not be required to offer the qualified beneficiary COBRA continuation coverage under the Health FSA for the remainder of the plan year, so long as the plan also meets the above two conditions required for discontinuing coverage for plan years after the plan year of the qualifying event.
An example from the IRS regulations sheds additional light on this formula. For example, Joe Participant elects to contribute US$2,400 to his Health FSA in 2009. On May 31, 2009, Joe is terminated. As of May 31, 2009, Joe has submitted US$300 in reimbursable expenses under the Health FSA. The formula above would be applied as such:
- Amount One equals Joe’s elected FSA contribution for the year (US$2,400), minus the amount Joe has submitted in reimbursable expenses as of the date of the qualifying event (US$300), or US$2,100.
- Amount Two equals 102 percent of Joe’s elected FSA contribution for the year (US$2,448) multiplied by 1/12, totaling US$204. This amount is then multiplied by the number of months remaining in the Health FSA’s plan year (7), which equals US$1,428.
Because Amount One (US$2,100) is more than Amount Two (US$1,428), the plan sponsor would be required to offer Joe COBRA continuation coverage under the Health FSA for the remainder of the plan year.
The following example shows a situation in which Joe Participant’s employer would not be required to offer Joe COBRA continuation coverage under the Health FSA for the remainder of the plan year. Assume that in the first example, Joe Participant had instead submitted US$1,000 in reimbursable expenses under the Health FSA as of his termination on May 31, 2009. The formula above would be applied as such:
- Amount One equals Joe’s elected FSA contribution for the year (US$2,400) minus the amount Joe has submitted in reimbursable expenses as of the date of the qualifying event (US$1,000), or US$1,400.
- Amount Two remains the same, equaling US$1,428.
Because Amount One (US$1,400) is now less than Amount Two (US$1,428), the Health FSA would not be required to offer Joe COBRA continuation coverage for the remainder of the plan year.
Because this calculation must be made with respect to each qualified beneficiary that has a qualifying event during a plan year, the IRS regulations make clear that the employer may instead choose to forego the above calculations and offer all qualified beneficiaries COBRA continuation coverage under the Health FSA for the remainder of the year of the qualifying event.
Noncompliance With COBRA
If an employer sponsoring a “group health plan” has neglected to offer COBRA continuation coverage under that plan, the employer will be subject to excise taxes under the Code of up to US$100 per qualified beneficiary per day, as well as a penalty of US$100 per day under ERISA Section 502(c)(1)(A) for failure to provide the qualified beneficiaries with notice of his or her eligibility for coverage. The IRS can also impose excise taxes on other liable parties, such as third party administrators, health maintenance organizations, and insurance companies, where such party either (i) administers the plan or provides the plan’s benefits according to a legally enforceable written agreement or (ii) fails to perform its responsibilities, thus causing the violation in whole or in part. In addition, noncompliant employers and plan sponsors may find themselves defendants in lawsuits to compel coverage under the Health FSA.
Correcting Prior Noncompliance
An employer sponsoring a “group health plan” which is noncompliant with the Code and ERISA due to the employer’s failure to offer COBRA continuation coverage under such “group health plan” must either (i) offer COBRA coverage retroactively, either up to the current date or, if earlier, the date of the termination of the applicable maximum coverage period, or (ii) offer prospective coverage, where the maximum coverage period has expired, or where the qualifying beneficiary declined to undergo medical procedures because COBRA coverage under his or her Health FSA was not offered.
The Code and ERISA requirement that all “group health plans” offer COBRA continuation coverage is not a new concept and has not been significantly modified in many years. However, the requirement that COBRA continuation coverage must be made available under plans such as Health FSAs may still come as a surprise to many employers, given that such plans would likely not be considered “group health plans” in mainstream discourse.
As you implement the administrative procedures to provide the COBRA premium subsidy required by the Act to your “group health plans” (except for Health FSAs), you should also review your current procedures to confirm that you are offering COBRA continuation coverage under all “group health plans,” as required by the Code and ERISA. As always, White & Case would be happy to discuss how the law described in this Client Alert applies to your employer-sponsored plans and to provide individualized guidance on compliance with COBRA.