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No Pre-Tax or Post-Tax Reimbursement of Individual Health Insurance Premiums, Including Those Purchased on the Exchange/ Marketplace

This really shouldn’t be that difficult. The ACA overturned a decades-old Revenue Ruling that allowed employers to reimburse employees pre-tax for individual health coverage. Nevertheless, in the face of multiple pronouncements from the IRS, DOL, and HHS implementing provisions of the ACA (known collectively as the Agencies for ACA purposes), some agents and vendors still convinced unknowing employers that it was fine for them to continue or start that practice, and now even make it seem a win-win for both the employer (tax deductions, lower payroll taxes) and employee (premium tax subsidies at the Exchange, pre-tax income). Only one small catch: the ACA’s infamous general penalty section, IRC 4980D.

The general penalty for violating many provisions of the ACA, including establishing a plan such as those that would reimburse employees on either a pre- or post-tax basis for individual (as opposed to group) health insurance coverage, is a mere $36,500 per employee per year—and it's as an excise tax, not deductible to the employer—somewhat higher than the actual cost of health coverage (and for many lower-wage employees, their annual salary). Needless to say, most knowledgeable employers would do a quick risk-reward analysis and run as fast as possible from any scheme that would bring that general penalty into play. The only applicable exception to this rule is for a plan with only one eligible employee (and family members are considered part of that one eligible employee instead of separate employees).  This penalty applies to employers of all sizes of two or more eligible employees, not just those with 50 or more FTEs.

The Agencies have provided much guidance in this area. In a DOL Technical Release, an IRS Notice, and two separate IRS FAQs, they were very clear that with one very narrow exception, no pre-tax or after-tax employer reimbursements could be made for the purchase of individual coverage, including that purchased through the Exchange.

On November 6, 2014, in yet another new FAQ, the Department of Labor once again reiterated that an employer may not utilize a Section 105 plan (aka HRA) or any other mechanism to reimburse employees on a pre-tax or post-tax basis for individual health insurance premiums purchased on the Exchange/Marketplace.  To really make their point, the IRS specifically again addressed this issue in yet another very pointed FAQ.  In addition, the New York Times did a very nice article in the past on the issue. We’ve been cautioning clients against this all along, and have communicated this in the past as well.

While the logic of using an HRA to reimburse employees for purchasing coverage on the Marketplace may make some sense, today’s additional guidance once again confirms that it is not an allowable practice and subjects the employer to significant penalties. The idea of “Private Exchanges” does provide a legal means of applying similar logic, but in an allowable group health insurance realm. Keep an eye open for more information on Private Exchanges in the near future.

An employer is allowed to offer taxable cash to all eligible employees, whether they use it to purchase health coverage or not. For example, an employer could tell all eligible employees that they’re discontinuing group health coverage and increasing all eligible employees’ pay by $X per hour or per month, which could be used to purchase individual coverage at the Exchange. However, offering that $X per month only to those who buy coverage would be prohibited.  So too would be arrangements where the employer incents, in any way (directly or indirectly), lower wage employees to go to the Exchange and receive a subsidy.

Employers, please be careful out there.

Posted on November 07, 2014 by Gary B. Kushner, SPHR, CBP, President and CEO

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