Plan Discrimination Overview ECFC 22 nd Annual Administrators Symposium

Transcription

1 Plan Discrimination Overview ECFC 22 nd Annual Administrators Symposium Session: Thursday, July 30, 2009, 10:15 am Mark L. Stember, J.D., LL.M., Kilpatrick Stockton LLP Robert M. Richter, J.D., LL.M., SunGard Relius Course Narrative This course will seek to navigate the intersection between plan design and the nondiscrimination rules for cafeteria plans, self insured health plans, dependent care assistance plans, and group term life. The presenters will discuss the basic nondiscrimination rules for cafeteria plans, self insured health plans (including health FSAs), dependent care assistance plans, adoption assistance, and group term life. Course Outline: Part I The Basics (Morning Session) I. Cafeteria Plans A. Identifying Highly Compensated Individuals 1. Officers 2. Shareholders 3. Highly Compensated Employees B. The Nondiscrimination Rules 1. The Eligibility Test (Test 1 of 3) 2. The Contributions and Benefits Test (Test 2 of 3) 3. The Key Employee Concentration Test (Test 3 of 3) C. Safe Harbors 1. Premium Only Plans 2. C&B Safe Harbor II. Code Section 105(h) A. Coverage Impacted by 105(h) 1. Meaning of Self Insured 2. Medical, Dental, Vision, EAPs, Health FSAs, HRAs B. Identifying HCEs 1. Officers 2. Shareholders 3. Highest Paid 25% of Employees. Session: Thursday, July 30, 2009, 10:15 am 1

2 Plan Discrimination Overview (cont) C. Nondiscrimination Rules 1. Eligibility Test (Test 1 of 2) 2. Benefits Test (Test 2 of 2) D. Special Rules and Exceptions for Testing 1. Physicals 2. Retirees 3. Disaggregation / Aggregation Rules III. Dependent Care Assistance Plans IV. Adoption Assistance V. HSA Issues VI. Group Term Life Insurance Session: Thursday, July 30, 2009, 10:15 am 2

3 Plan Discrimination Fundamental 8 July 30, 2009 Mark L. Stember, J.D., LL.M., Kilpatrick Stockton LLP Robert M. Richter, J.D., LL.M., SunGard Relius 2009 ECFC, Mark L. Stember and Robert M. Richter GENERAL CONCEPTS 2 Nondiscrimination Testing Nondiscrimination rules are designed to ensure that benefits do not discriminate in favor of certain owners or highly paid individuals Cafeteria plan benefits are provided under several sections of the Internal Revenue Code Each type of benefit available or provided under a cafeteria plan is subject to both: General discrimination rules under IRC Section 125 and, Its own applicable nondiscrimination rules 3 1

4 Levels of Testing Benefit IRC Section Medical Expense Reimbursement 105(h) Dependent Care Assistance 129 Group-Term Life Insurance 79 Adoption Assistance 137 Health Savings Account 223 General Discrimination Rules Testing Group Key Employees (IRC 416) Highly Compensated Employees (IRC 414(q)) Highly Compensated Individuals (IRC 125 and 105(h)) More than 5% shareholders (IRC 129 and 137) 5 Employer/Employees Must consider all non-excludable employees and leased employees of all related employers (controlled group or affiliated service group) for: Determination of key employees/hces/hcps Nondiscriminatory eligibility rules 6 2

5 Aggregation/Disaggregation New rules regarding treatment of multiple plans or benefit structures for IRC 125 Final 125 regulations will be key Reasonable to presume permissive aggregation and disaggregation rules could be used for other benefits Example All employees eligible for premium payment portion of plan, but only Division A employees eligible for health FSA. Nondiscrimination as to eligibility under IRC 125? 7 Nondiscrimination IRC 125 IRC 125 Cafeteria plan can t discriminate in favor of: Highly compensated individuals (HCI) as to eligibility to participate Highly compensated participants (HCP) as to contributions and benefits Key employees as to concentration of benefits 9 3

6 General Rules Nondiscrimination tests are applied at the end of the plan year May disaggregate plans if more liberal service requirement than 3 years; each must separately pass eligibility and contributions and benefits test May permissively aggregate plans (if so, then must aggregate for all tests) Prop. Regs. contain anti-abuse provisions (if it smells bad, it is bad) 10 Eligibility and Benefits IRC 125 Highly Compensated Individual HCI is: 1. Officer 2. More than 5% shareholder 3. Highly compensated 4. Spouse or dependent of any of the above Highly compensated participant is HCI who is eligible to participate 12 4

7 Highly Compensated 125(b)(1) Officer during the preceding year (or current plan year in the case of the first year of employment) More than a 5% shareholder during the preceding or current year Employee during the preceding year (or current plan year in the case of the first year of employment) had compensation greater than $105,000 in 2008, $110,000 in Can apply top-paid group A spouse or dependent (152) of the above employees or owners 13 Officer Facts and circumstances test that is based on duties and authority (not title) Generally based on status as of preceding PY Based on status in current year for the first year of employment 14 HCEs 5% owner More than 5% ownership of stock value or voting power in current or prior plan year No stock attribution for purposes of this rule (but spouses and dependents of HCIs are HCIs) Apply rule separately to each entity that is part of CG or ASG (e.g., if own more than 5% of 1 entity, then HCI even though less than 5% owner when applied on a CG basis) 15 5

8 Highly Compensated Compensation in excess of amount in IRC 414(q)(1)(B) $105K for 2008; $110K for 2009 May make top-paid group election (top 20%) Generally based on status as of preceding PY Based on status in current year for the first year of employment 16 Top-paid Group Election Can elect to limit HCIs based on compensation to top 20% of employees In computing top 20%, can disregard employees who: Didn t work in prior year Have less than 6 months of service Normally work <17 ½ hours/week Haven t attained age 21 before year starts Are non-resident aliens without US source income 17 IRC 125 Nondiscrimination Eligibility 6

9 Eligibility 3 ways to pass Facts and circumstances Union plan Safe harbor rule 19 Safe harbor eligibility rule Must pass 3 tests: 410(b)(2)(A)(i) nondiscriminatory classification test No more than 3 years of employment (elapsed time) to participate Eligible employees enter plan no later than first day of plan year after requirements met 20 Nondiscriminatory classification test Excludible employees: Union employees (except key employees) subject to collective bargaining Nonresident aliens without US source income Employees who are participating p under COBRA provision 21 7

10 Nondiscriminatory classification test Two prongs: Reasonable, objective criteria The classification is reasonable and is established under objective business criteria that identify the category of employees who benefit under the plan Examples: job site, hourly/salaried, job category List by name won t do Pass numerical test of IRC 410(b) based on HCIs 22 Numerical test Compare coverage ratio (ratio percentage) to safe and unsafe harbors If coverage ratio at least equal to safe harbor plan passes If coverage ratio below unsafe harbor plan fails Between safe and unsafe harbor facts and circumstances or pass? 23 Coverage fraction NHCE = Employee who isn t HCE Ignore excludable employees NHCE% = Participating NHCEs/Total NHCEs HCE% = Participating HCEs/Total HCEs Coverage fraction = NHCE%/HCE% 24 8

11 Coverage fraction example Sample, Inc. plan benefits all employees at Denver office (6 HCE and 45 NHCE) and excludes employees at Seattle office (4 HCE and 55 NHCE) NHCE% = 45% (45/100); HCE% = 60% (6/10) Coverage fraction = 75% 25 Safe and Unsafe Harbors NHCE concentration % = includible NHCEs includible employees Round concentration % down to nearest whole % In Sample, Inc. plan NHCE concentration = 100/110 = 90% Safe harbor = 27.5% Coverage fraction = 75% Plan passes Concentration Percent Safe Harbor Unsafe Harbor 0-60% 50.00% 40.00% 66% 45.50% 35.50% 70% 42.50% 32.50% 75% 38.75% 28.75% 80% 35.00% 25.00% 83% 32.75% 22.75% 90% 27.50% 20.00% 99% 20.75% 20.00% 26 Permissive disaggregation May apply test separately to those with less than 3 years of participation If rule is used, then must test separately for eligibility as well as contributions and benefits (not for concentration test) 27 9

12 Required disaggregation? Prop. Regs. disaggregate different benefit structures Ex. 2: NHCPs can reduce comp by $10K for coverage; HCPs have $8K flex credit and can reduce comp by $2K for coverage (plan discriminates as to eligibility) Ex. 3 & 4: Same issue if HCPs have traditional coverage and NHCPs have highdeductible, even if salary reduction is same $ 28 IRC 125 Nondiscrimination Contributions/Benefits Contributions and Benefits Benefit availability and benefit elections must be nondiscriminatory Separate test for qualified benefits and total benefits Benefits/contributions measured as a % of compensation % for HCPs can t exceed % for NHCEs 30 10

13 Contributions/Benefits 4 ways to pass Facts and circumstances Union plan 125(c) safe harbor 125(g)(2) safe harbor ( health plan safe harbor ) 31 IRC 125(c) Safe Harbor Either: Plan does not discriminate in qualified benefits and total benefits Plan does not discriminate in employer contributions for statutory nontaxable benefits and total benefits 32 IRC 125(c) Regulation A plan must satisfy the nondiscrimination rules for both: Benefit availability Plan must give each similarly situated participant an equal opportunity to elect nontaxable benefits Benefit election - the actual selection of nontaxable benefits under the plan must not be discriminatory (i.e., HCPs do not disproportionately select nontaxable benefits while other participants select taxable benefits) 33 11

14 Significant disparity Committee reports say plan is OK if HCP benefits aren t significantly higher than NHCP benefits Allows some disparity How much is too much? (c) Example Facts: 125 premium only plan for purchase of dependent health coverage ($1,000) 5 HCPs/10 NHCPs 5 HCPs elect coverage 5 NHCPs elect coverage Total HCP contributions = $5,000 Total NHCP contributions = $5, (c) Example How is test applied? Based on % of compensation Does it matter if 50% of NHCPs who elected no coverage have no dependents? Does it vary based on type of benefit? What if DCAP also offered and 100 of HCPs elect health coverage and 100% of NHCPs elect DCAP and no health coverage? 36 12

15 Health plan safe harbor A cafeteria plan which provides health benefits is not discriminatory if plan contributions for each participant: = 100% the cost of the health benefit coverage under the plan of the majority of the similarly situated HCPs, or 75% of the cost of the health benefit coverage of the similarly situated participant with the highest cost health coverage under the plan And other contributions or benefits bear uniform relationship to compensation 37 Lousy safe harbor Only applies to major medical coverage If one NHCP decides not to buy coverage, there goes safe harbor DCAP contributions/benefits proportional to compensation? Overall, this safe harbor will apply to few plans 38 Summary of Contributions/Benefits The 2 safe harbors are either too vague or inapplicable Leaves us with a smell test 39 13

16 IRC 125 Nondiscrimination Concentration Test Concentration test Nontaxable benefits for key employees (IRC 416) may not exceed 25% of all nontaxable benefits in plan 41 Key Employee IRC 416 More then 5% owner (IRC 318 attribution) More than 1% owner (IRC 318 attribution) with compensation over $150K Officer with compensation over $150K (for 2008) or $160K (for 2009) Compensation based on total compensation including elective deferrals Based on status in prior year 42 14

17 Key Employee 1% owner Same as 5% owner except that it is more than 1%, and Must have compensation of more than $150K Doesn t change with inflation Is based on total compensation including elective e deferrals 43 Key Employee Officer Based on duties, not title Must have compensation of more than $150K for 2008 (or $160K for 2009) Adjusted for inflation Is based on total compensation including elective deferrals Limit on # of officers that are key 44 Key Employee Officer Number of Employees Maximum # Officers <31 3 >30 and 10% of <501 employees >

18 Concentration test Employer contributes $1,000/per employee Employee can get individual coverage ($1,000), family coverage ($2,000), or no coverage If no coverage, employee takes $1,000 cash If family coverage, employee pays $1,000 Two key employees get family coverage Total key employee benefits = $4,000 5 non-keys get family; 2 non-keys get individual Total non-key employee benefits = $12,000 Plan passes concentration test $4,000/$16,000 = 25% 46 Concentration test How are employer subsidies treated? Premium is $1,000 Employee pays $600; Employer pays $400 Employer subsidy not available in cash For concentration ti test, t do you use $1,000 or $600? 47 Concentration test Employer puts $1,000 in cafeteria plan for each employee Employee can get individual coverage ($1,000), family coverage ($2,000), or no coverage If no coverage, employee takes no cash If family coverage, employee pays $1,000 Two key employees get family coverage Total key employee benefits = $2,000 5 nonkeys get family; 2 nonkeys get individual Total nonkey employee benefits = $5,000 Plan fails concentration test $2,000/$7,000 = 28.57% 48 16

19 Concentration test Employer puts $1,000 in cafeteria plan for each employee Employee can get individual coverage ($1,000), family coverage ($2,000), or no coverage If no coverage, employee takes $100 cash If family coverage, employee pays $1,000 Two key employees get family coverage Total key employee benefits = $4,000 5 nonkeys get family; 2 nonkeys get individual Total nonkey employee benefits = $12,000 Plan passes concentration test $4,000/$16,000 = 25% 49 NEW POP SAFE HARBOR 50 What is a POP? POP = cafeteria plan that offers as its sole benefit an election between cash and payment of employee share of employer-provided accident and health insurance premium What about self-funded plans? What about disaggregation? 51 17

20 New Safe Harbor for POPs POP satisfies nondiscrimination rules if it satisfies the safe harbor percentage for eligibility under the nondiscriminatory classification test If passed, it appears to be a pass on all nondiscrimination tests (including concentration test) 52 IRC 125 Nondiscrimination Consequences of Failure Consequences to HCP It isn t a cafeteria plan for HCPs/Keys Welcome back constructive receipt HCP taxed on amount could have taken in cash or taxable benefits 54 18

21 Example Plan allows participants to choose between health coverage, dental coverage, dependent care assistance, or cash Each participant i t can spend up to $1,000 Limit on cash = $250 Plan is discriminatory HCPs taxed on $ When are HCPs taxed? Tax year in which plan year ends Example: Company has cafeteria plan with July 31 plan year end. For August 1, 2006 July 31, 2007 plan year, Harry HCP contributed $2,000 for FSA in plan. Plan was discriminatory. Harry pays tax on $2,000 in 2007 Same timing rule applies to key employees 56 What happens to taxed benefits? It s as though employee had spent after-tax money to buy benefits Example: Cafeteria plan funded entirely from salary withholding Key employee elects $2,000 for health insurance and $500 for disability insurance Plan fails concentration test Key employee pays taxes on $2,500 Can treat $2,000 as medical expense deduction If key employee becomes disabled, payments attributable to $500 payment are tax free 57 19

22 Nondiscrimination Underlying Benefits Health Coverage IRC 105 Health insurance coverage No nondiscrimination rules In the past, employer could pay 100% of HCE health insurance and 50% NHCE Let NHCEs pay the other 50% through cafeteria plan Design is now questionable under proposed 125 regulations (l) broad anti-abuse rule 60 20

23 Section 105(h) Contains non-discrimination rules for selfinsured plans Additional non-discrimination rules for VEBAs and captives IRS intends to revisit it 105(h) in the near future nearly 30 years old and many concepts not applicable to current benefit structures 61 Meaning of Self-Insured Presumed self-insured unless have an insurance policy issued by a licensed insurer or a pre-paid health care plan through an HMO. See, Treas. Reg (b)(1)(i) Mere existence of policy not sufficient. Need economic shifting of risk Retrospective experience rating or minimum premium arrangement most likely self-insured IRS can bifurcate one arrangement into separate arrangements 62 Covered Benefits Medical and Dental coverage Vision and EAPs Most arrangements look insured (capitated payments) but really selfinsured No state licensed insurer Health FSAs HRAs HSAs HDHP is medical, but HSA itself not covered PRA Covered by 125 only 63 21

24 Self-funded health plan No discrimination in favor of highly compensation individuals (HCI) Same term as 125 rules; different definition One of 5 highest paid officers 10%+ shareholder h (use attribution) ti OR In top 25% of employees ranked by compensation Exclude 10% owners who don t participate 64 Self-funded health plan Issues with officer identification Similar considerations as in 125 rules authority, not title test However, likely anyone at margin will be picked up in 25% test Due to 25% test will always have a group of HCIs to be concerned with 25% of all non-excludable employees, ranked by compensation 100 total employees 25 will be HCIs 65 Self-funded health plan Can t discriminate in favor of HCIs for: Eligibility Benefits Any disparate treatment must be thoroughly examined 66 22

25 IRC 105(h) Eligibility Test Eligibility can t discriminate in favor of HCIs Disregard the following employees Less than 3 years of service Less than 25 years old Part-time time (less than 25 hours/week) or seasonal employees (annual employment less than 7 months) Union employees Nonresident aliens without US source income 67 IRC 105(h) Eligibility Test Plan will pass under any one of the following: Benefit 70% of all employees Benefit 80% of employees eligible to participate if at least 70% of employees are eligible Benefit a nondiscriminatory classification of employees 68 IRC 105(h) Eligibility Nondiscriminatory Classification: Based on facts and circumstances Uses 410(b)(1)(B) and Reg (b)-4 rules Dispute as to whether old (pre-tra rules) or new (post-tra) rules should be used 125 uses the post-tra rules Best to use new rules 69 23

26 IRC 105(h) Eligibility Nondiscriminatory Classification: Same as for 125 test Must have a reasonable classification of employees based on bona-fide business criteria Classification that benefits under the plan must meet the safe harbor percentage test 70 IRC 105(h) Benefits Test Benefits can t discriminate in favor of HCPs No discrimination on its face Example: Only management employees can elect a certain health option No discrimination in operation Works as a utilization test 71 IRC 105(h) Benefits Test No blatant discrimination Employee contributions same for each benefit option Geographic differences Maximum benefit level cannot vary based on age, YOS or compensation Same benefit options available to all No disparate waiting periods 72 24

27 IRC 105(h) Benefits Test Optional benefits All participants can choose optional benefits Test benefit availability, not benefit payment Limits attributable to employer contributions must be uniform 73 IRC 105(h) Benefits Test Discriminatory in operation Facts and circumstance test Example: Health FSA allows participants to contribute up to $25K per year Likely only an HCI will be able to contribute t more than $5K per year 74 Exceptions and Special Rules Physicals and related diagnostic tests Many companies have physical plans for executives Retirees Literal application does not work Most discriminatory because vary employer contributions and benefits on service, vesting and retirement age Disaggregation and aggregation to meet the rules applies for all of 105(h) 75 25

28 If discriminatory HCPs taxable on excess reimbursement Discriminatory Coverage: Excess reimbursement is reimbursement to all HCPs based on ratio to total benefits under plan Suppose HCEs receive $3,000 in reimbursements and NHCEs $7,000 Each HCE pays tax on 30% of reimbursement 76 If discriminatory Discriminatory Benefits: HCP taxed on the total amount reimbursed to that HCP relating to the benefit More severe penalty Example - Executives receive retiree coverage, while others do not All benefits paid are taxable Note - Creates taxable compensation under IRC 409A 77 Dependent Care Assistance Program IRC

29 DCAP Nondiscrimination 1. No discrimination in favor of HCEs (414(q)) as to eligibility to participate 2. No discrimination in favor of HCE (414(q)) as to contributions and benefits 3. Plan benefits for 5%+ owners can t exceed 25% of total 4. Avg. NHCE benefits 55% avg. HCE (414(q)) benefits 79 DCAP Eligibility Nondiscriminatory classification Based on eligibility, not utilization Most apply the nondiscriminatory classification test of IRC 410(b) but no specific authority to do so Same as 125 rules reasonable classification, plus safe harbor percentage 80 DCAP Contributions/Benefits No guidance Smell test Presumably based on availability, not utilization 81 27

30 DCAP 25% test Based on more than 5% owners Utilization test If test fails, all HCEs lose benefits 82 DCAP 55% test Based on utilization Presumably those who are eligible but do not elect benefits are averaged in at 0% If under salary reduction, can disregard employees with compensation < $25, % test example 1 HCE and 5 NHCEs HCE contributes $5,000 4 NHCEs contribute $3,000/each 5 th NHCE contributes $0 Average NHCE contributes $2,400 55% X $5,000 = $2,750 If 5 th NHCE comp $25K, plan fails If 5 th NHCE comp < $25K, plan passes 84 28

31 Consequences of DCAP failure NHCEs are fine But all HCEs taxable on DCAP contributions Whether or not cafeteria plan is OK 85 Adoption Assistance IRC 137 Adoption Assistance Eligibility Classification Test Must benefit a classification that does not discriminate in favor of HCEs Union employees excluded 5% Concentration Test Not more than 5% of benefits during the year may be provided to shareholders and owners 87 29

32 Adoption Assistance Highly compensated IRC 414(q) Owners Individual who (on any day of the year) owns more than 5% of the stock or of the capital or profits interest in the employer Spouse or dependent of above individual 88 Adoption Assistance Consequences of discrimination Benefit taxable to HCEs and/or more than 5% shareholders (depending on which test is failed) 89 Health Savings Account (HSA) IRC

33 Health Savings Account (HSA) HSA contributions made through a 125 plan are only subject to 125 nondiscrimination rules Includes employee contributions Includes employer contributions match, incentive and seed money 125 Issues Eligibility test all employees eligible Contributions and benefits test election and utilization 25% Key Employee concentration test HSA contributions included HSA contributions outside of a 125 plan subject to comparability rules of IRC 4980G 91 Group-term Life Insurance IRC 79 Group-term life insurance Can t discriminate in favor of key employees (416(i)) Regarding eligibility to participate Regarding g the type and amount of benefits 93 31

34 Group-term Life Eligibility To have nondiscriminatory eligibility, groupterm life insurance plan must benefit one of following: 70% of all employees 85% of nonkey employees A nondiscriminatory classification of employees But, if the insurance is obtained through a cafeteria plan, then GT eligibility is passed if cafeteria plan satisifies IRC Group-term Life - Nondiscriminatory benefits All benefits for key employees are available to all participants Can be pro rata by total compensation or base compensation Example: All employees receive coverage of 1x salary 95 Group-term failure If group-term life insurance fails nondiscrimination, key employees pay tax on life insurance coverage (including the first $50K) IRS table costs Non-key employees retain first $50k exclusion 96 32

35 Group-Term Life Insurance Table 1 Uniform Premiums for $1,000 of Group-term Life Insurance Protection 97 QUESTIONS 33