New Legislation Overrides Draconian IRS Penalties on Small Employers that Reimburse or Pay for Employee Health Insurance Premiums

On December 13, 2016, Pres. Obama signed into law the “21^st Century Cares Act.”  Part of that legislation allows small employers to provide qualified health reimbursement arrangements (HRAs) for employees.  When the Affordable Care Act (ACA) was enacted, the long-time practice of allowing employers to pay for a limited amount of employee medical expenses, including health insurance premiums, on a tax-free basis was rendered non-compliant.  The ACA required these HRAs to be integrated with a group health insurance plan meeting the ACA mandate, such as no annual limit on the amount of benefits provided.  Large employers, meaning those with 50 or more full-time equivalent employees, are required by the ACA to offer minimum essential and affordable group health insurance to their full-time employees.  Small employers are not required to offer group health insurance, but many want to provide some financial assistance to their employees who want to select their own individual health insurance plans.  The financial assistance was provided under so-called “stand alone” HRAs which the ACA rendered non-compliant.  Small businesses that continued these stand-alone HRAs were threatened by the IRS with $100 per day per employee penalties ($36,500 a year per employee) under IRS Notice 2015-17.  Under the Notice, such small businesses had to stop the practice by June 30, 2015 (with a special rule for one-employee S corporations).  Thus, even though small employers aren’t subject to the mandate to offer group health insurance, they could be put out of business by the government for offering to help pay for the individual health insurance plans of their employees!  The penalty was a way of strong-arming small employers to enroll employees in the government run Small Business Health Options Program (SHOP) marketplace exchange.

This government nonsense is finally dealt with by the 21^st Century Cares Act which is applicable to HRA plan years beginning after 2016.  To avoid the $100 per day per employee penalty after 2016, small employers must now render any financial assistance through a qualified small employer HRA which meets these requirements:

1.      The employer must have less than 50 full-time equivalent employees.

2.      The employer must not offer group health insurance to any employee.

3.      All eligible employees must receive the same terms under the HRA, although variances based upon age or the number of family members is permitted (much like the pricing of a health insurance policy).  Excluded employees are those who haven’t completed 90 days of service, who haven’t attained age 25, who are part-time or seasonal workers, or who are part of a union.

4.      Only employer funds may be used to fund the HRA and no employee salary reduction contributions are permitted.

5.      The HRA either pays or reimburses the employee’s eligible medical expenses, and if health insurance premiums are paid or reimbursed, the employee must first submit proof of insurance coverage.  If the HRA permits, employee family member expenses can also be reimbursed.

6.      The maximum HRA benefit is limited to $4,950 for self-only plans, or to $10,000 for HRAs that also provide reimbursement for family members of the employee.  These amounts are adjusted for inflation after 2016.  If an employee isn’t covered for the full year, then these amounts must be prorated by the number of months covered.

7.      The amount of the benefit must be reported as information on the employee’s W-2.  Under a new provision, if the employee does not have minimum essential health insurance for the month in which the medical care is provided, then the HRA reimbursement is taxable compensation and is not tax-free.

8.      A written notice must be given to employees not later than 90 days before the beginning of the HRA plan year or else there is a $50 per employee per failure penalty (not to exceed a maximum $2,500 for a calendar year).  For the first HRA year beginning in 2017, the notice isn’t treated as late if given no later than 90 days after enactment, which is March 13, 2017.  The notice must state the amount of the employee’s permitted benefit, that the employee must inform any health insurance exchange to which the employee applies for advance payment of the premium assistance tax credit of the amount of HRA benefit, and that the employee may be subject to penalty if he or she does not comply with the mandate to purchase minimum essential health insurance coverage.
UPDATE:  IRS Notice 2017-20 suspends the March 13th notification date for 2017 plans until 90 days after further guidance has been issued by the IRS.

The new law removes the penalty for HRA plan years beginning before 2017 for any small employer that failed to stop providing the old style HRA as of June 30, 2015.  It appears that the penalty will apply after 2016 if small employers don’t follow the new qualified HRA rules.

A change is also made for purposes of the premium assistance tax credit for employees purchasing health insurance on an exchange when they also participate in a qualified HRA.  The premium assistance credit is reduced by the amount of HRA benefit.  This provision prevents double dipping where the employee receives both a government subsidy and an employer subsidy for purchasing health insurance on the government exchange.