On May 18, 2012, the IRS issued final regulations relating to the health insurance premium tax credit enacted as part of the Affordable Care Act. The regulations finalize rules proposed by the IRS in August 2011. The final rules provide guidance to individuals who enroll in qualified health plans through affordable insurance exchanges and claim the premium tax credit, and to exchanges that make qualified health plans available to individuals and employers. Although the final regulations are designed to provide guidance to individual taxpayers and exchanges, employers will find them instructive because of the relationship between an employee’s eligibility for the premium tax credit and employer liability under the employer mandate (the so-called “pay or play” penalty).

Premium Tax Credits. Under Section 36B of the Internal Revenue Code, certain individuals are entitled to a tax credit for health insurance coverage that is purchased through an exchange.

To be eligible for a premium tax credit, an “applicable taxpayer” is allowed a premium tax credit if the applicable taxpayer, or the applicable taxpayer’s spouse or dependent, is enrolled in a qualified health plan through an exchange; is not eligible for government-sponsored coverage (e.g., Medicare. Medicaid, the Children’s Health Insurance Program (CHIP), TRICARE, and VA health care); and is not enrolled in employer-sponsored coverage. An employee who is eligible for employer-sponsored coverage does not qualify for a premium tax credit if the employer-sponsored coverage provides minimum value and is affordable. An employee who is eligible for employer-sponsored coverage that does not provide minimum value or is unaffordable can still qualify for the premium tax credit.

An “applicable taxpayer” is a taxpayer who:

  • has household income that is at least 100 percent but not more than 400 percent of the federal poverty line for the taxpayer’s family size for the taxable year,
  • is lawfully present in the United States and not incarcerated,
  • files a joint tax return, if married, and
  • cannot be claimed as a dependent on anyone else’s return.

Automatic Enrollment. Under the final regulations, an employee who is automatically enrolled in an employer-sponsored plan retains his or her eligibility for the premium tax credit, provided the individual terminates the coverage before the later of the first day of the second full calendar month of the plan year or other period, or by the last day of a permissible opt-out period provided by the plan or in DOL regulations.

COBRA Coverage. Under the final regulations, an individual is eligible for employer-sponsored COBRA or mini-COBRA only if he or she is actually enrolled in such coverage.

What Is “Minimum Value?” Employer-sponsored coverage provides minimum value only if the plan’s share of the total allowed costs of benefits provided under the plan is at least 60 percent. In Notice 2012-31, the IRS outlined three potential approaches that could be used to determine whether an employer-sponsored plan provides minimum value. The final regulations do not address minimum value other than to state that future guidance will be forthcoming.

When Is Employer-Sponsored Coverage “Affordable?” Under the final regulations, an employer-sponsored plan is affordable for the employee (and only the employee) if the portion of the premium the employee must pay for self-only coverage does not exceed 9.5 percent of household income. The final regulations reserve the issue of the affordability of family coverage for later resolution.

With respect to affordability, the final regulations state that employer contributions to an HSA would not affect affordability of employer-sponsored coverage because HSA contributions may not be used to pay for premiums for health insurance coverage. Likewise, amounts available under an HRA that may be used to reimburse medical expenses other than the employee’s required share of the cost of employer-sponsored coverage would not affect the affordability of employer-sponsored coverage. The final regulations do not address how other HRAs are treated for purposes of determining affordability.

The final regulations do not address the effect on affordability of wellness incentives that increase or decrease an employee’s share of premiums. The final regulations, however, authorize the IRS to issue guidance on this issue. The IRS has requested comments on types of wellness incentives that increase or decrease an employee's share of premiums; how these programs affect the affordability of eligible employer-sponsored coverage for employees and related individuals; and how incentives are earned and applied.

The Employer Mandate. The Affordable Care Act does not mandate that an employer offer health coverage; however, effective January 1, 2014, certain employers with 50 or more employees, counting both full-time employees and full-time equivalent employees, will be liable for a penalty if they do not offer coverage to all full-time employees, or if the coverage offered is neither affordable nor valuable.

Under the circumstances described below, an employer would be liable for a penalty if at least one of its full-time employees purchases coverage through an exchange and receives a premium credit.

  1. If an employer and each of the employer’s controlled group members fail to offer all full-time employees and their dependents medical coverage that meets minimum federal standards, the employer will be liable for a penalty if one or more of the employer’s employees qualify for a premium tax credit or cost-sharing subsidy for individual coverage that the employee purchases through an exchange. The penalty is $2,000 times the number of full-time employees in excess of 30.
  2. If an employer does make minimum essential coverage available to all full-time employees, the employer will nevertheless be liable for a penalty if (a) the employer’s coverage either is not “affordable” or does not provide “minimum value” and (b) the employer has one or more employees who qualify for a premium tax credit for individual coverage purchased through an exchange. The penalty in this situation is $3,000 for each employee who receives a premium credit through the exchange.

Unlike the definition of affordability for purposes of entitlement to the premium tax credit, which is based on household income, affordability for purposes of the pay-or-play mandate is based on an employee’s W-2 income. In Notice 2011-73, the IRS stated that for the purpose of the employer-mandate, employer-sponsored health coverage is deemed affordable if the premium required to be paid by the employee for self-only coverage is equal to or less than 9.5 percent of the employee’s W-2 wages. As noted, employer-provided coverage is deemed to provide “minimum value” if the plan pays at least 60 percent of covered medical benefits of a hypothetical or a standard population. Thus, for example, a plan that has no employee cost sharing (e.g., no co-pays, deductibles, and co-insurance amounts) would pay 100 percent of covered medical benefits.

Action Steps. While the final regulations addressing the premium tax credit are not intended to provide guidance to employers for the purposes of the employer mandate, they do provide some useful insight into IRS thinking about affordability and other matters relating to eligibility for the premium tax credit. In light of the recent Supreme Court decision upholding the constitutionality of the Affordable Care Act, we encourage employers to begin a review of the impact of the employer mandate on plan design.