The health care reform law provides that the rules that until now have barred discrimination in favor of the highly compensated by self-insured plans also apply to nongrandfathered, insured group health plans effective for plan years beginning on or after September 23, 2010. This could begin the demise of executive carve-out plans.
The new provision was created through a legislative maze. Until the enactment of the Affordable Care Act (ACA), the provisions of IRC Sec. 105(h)(2) applied to self-insured health plans only. The ACA, however, added Public Health Service Act (PHSA) Sec. 2716 which says that a group health plan (other than a self-insured plan) must satisfy the requirements of IRC Sec. 105(h)(2) (relating to prohibition on discrimination in favor of highly compensated individuals). PHSA Sec. 2716 also says that rules similar to the rules contained in paragraphs IRC Sec. 105(h)(3), (4), and (8) plus the specific definition of “highly compensated” in IRC Sec. 105(h)(5) are to be used for determining if an insured group health plan satisfies the Sec. 105(h)(2) rules. Finally the ACA added ERISA Sec. 715 and IRC Sec. 9815 which incorporated many of the new provisions of the PHSA Act including Sec. 2716 into those two acts.
The net effect is that insured group health plan that were established or amended after March 23, 2010 must satisfy the IRC Sec. 105(h)(2) requirements. Under these rules a plan may not discriminate in favor of highly compensated individuals as to eligibility to participate and the benefits provided under a plan.
Eligibility test. A plan does not satisfy the eligibility to participate requirements unless the plan benefits:
- 70 percent or more of all employees, or 80 percent or more of all the employees who are eligible to benefit under the plan if 70 percent or more of all employees are eligible to benefit under the plan; or
- Employees that qualify under a classification set up by the employer and found by the DOL not to be discriminatory in favor of highly compensated individuals.
Certain employees do not have to be counted when applying this test including:
- Employees who have not completed 3 years of service;
- Employees who have not attained age 25; and
- Part-time or seasonal employees.
Internal Revenue Service Regulations (26 CFR Sec. 1.105-11) provide that an employer may treat employees whose customary employment is less than 25 hours a week or 7 months a year as part-time or seasonal employees.
Benefits test. A plan must provide the same benefits that it provides to participants who are highly compensated individuals to all other participants.
Highly compensated individual. For this purpose of these tests, the term “highly compensated individual” means an individual who is:
- One of the 5 highest paid officers,
- A shareholder who owns more than 10 percent in value of the stock of the employer, or
- Among the highest paid 25 percent of all employees.
Carve-out plans. Insured executive carve-out plans have been a popular way for employers to provide enhanced health benefits to executive and other key employees. Such as strategy even worked for employers whose main plan was self-insured, because the insured portion was not subject to the IRC Sec. 105(h) requirements. Unless a carve-out plan keeps its grandfathered status it will be difficult to pass the 105(h) tests.
Keeping grandfathered status. Under the statute and interim final regulations issued jointly by DOL (29 CFR Sec. 2590.715-1251), HHS (45 CFR Sec. 147.140), and IRS (26 CFR Sec. 54.9815-1251T), a group health plan or group or individual health insurance coverage is a grandfathered health plan for individuals enrolled on March 23, 2010. The regulations provide that a group health plan or group health insurance coverage does not cease to be grandfathered health plan coverage because one or more (or even all) individuals enrolled on March 23, 2010, cease to be covered, provided that the plan or group health insurance coverage has continuously covered someone since March 23, 2010, (not necessarily the same person, but at all times at least one person).
The determination of grandfathered status is made separately for each benefit package made available under a group health plan or health insurance coverage. However, if an employer enters into an entirely new policy, certificate, or contract of insurance after March 23, 2010, that new policy, certificate, or contract of insurance is not a grandfathered health plan for the individuals in the group health plan. Any policies sold to a new entity after March 23, 2010, will not be a grandfathered health plan even if the health insurance product sold was offered before March 23, 2010.
Enforcement. Under IRC. Sec. 105(h)(1), if a self-insured plan is discriminatory all or part of the benefits provided to a highly compensated individual are included in the individual’s taxable income. This provision does not apply to insured plans. IRC Sec. 4980D puts an excise tax of $100 per day of noncompliance on violations of IRC Chapter 100 which includes IRC Sec. 9815. Thus, insured plans that discriminated in favor of the highly compensated are subject to a $100 per day excise tax.
Note: IRC Sec 4980D does not apply to small employers that provide health insurance coverage solely through a contract with a health insurance issuer. The term "small employer" means, with respect to a calendar year and a plan year, an employer who employed an average of at least 2 but not more than 50 employees on business days during the preceding calendar year and who employs at least 2 employees on the first day of the plan year. Thus, although small employers are covered by the prohibition on discrimination in favor of the highly compensated, there is currently no penalty for noncompliance. This may be a technical error that will be corrected in the future.
For more information and guidance on healthcare reform, visit Healthcare Reform: A Resource Center for Employers, on Compensation.BLR.com.