What s Next? Health Plans: Drinker Biddle s Health Care Reform Update for Employee Benefit Plans

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1 Health Plans: What s Next? Drinker Biddle s Health Care Reform Update for Employee Benefit Plans IRS Proposed Regulations Provide Additional Guidance For Compliance With the Employer Shared Responsibility Rules By Employee Benefits Health Care Reform Team The time has come for employers to decide whether to play or pay under the employer shared responsibility mandate in the Patient Protection and Affordable Care Act of 2010 (health care reform). If the answer is to play, employers need to take steps now to comply with the employer shared responsibility requirements and avoid significant penalties that may apply for failure to offer coverage to full-time employees or for offering unaffordable or insufficient coverage to full-time employees. Recently issued proposed regulations expand upon and clarify prior guidance issued in the form of Notices and provide some transitional relief. Employers may rely on the proposed regulations pending issuance of final regulations or other guidance and will be provided sufficient time to comply with any future guidance that is more restrictive. Set forth below are some of the significant items in the new guidance. And following that is an update of the summary of the employer shared responsibility rules we provided in our November Health Care Reform Update, which now incorporates the guidance in the proposed regulations. What s New? The no coverage penalty (for failing to offer coverage to full-time employees) will not apply if coverage is offered to at least 95% of full-time employees (rather than 100%) allowing some room for error or strategic planning. Thus, an employer may intentionally exclude up to 5% of full-time employees and still avoid the no coverage penalty. The proposed regulations clarify that the offer of coverage must include dependent children under age 26. Coverage is not required to include spouses. Plans that do not currently cover children may work toward compliance in 2014 as long as the plan offers coverage to dependent children beginning in An employer with a fiscal year plan year will not be assessed penalties prior to the first day of the plan year beginning in 2014 provided certain conditions are met. Two additional safe harbors based on rate of pay and the federal poverty line are added for purposes of the affordability requirement. Shorter measurement periods are permitted for the 2014 determination of both large employer and full-time employee status. Further guidance is provided with respect to hours of service and what it means to offer coverage. Rules are provided regarding rehired employees and employees with breaks in service, including employees of educational organizations who work on an academic year basis. Employee Benefits & Executive Compensation Practice Group

2 Summary of Requirements Highlights: What You Need to Know for 2014 Beginning in 2014, applicable large employers (i.e., those with 50 or more full-time equivalent employees) will pay penalties if they fail to offer health coverage to full-time employees, or offer coverage that is either unaffordable or does not provide minimum value and at least one full-time employee receives premium assistance to purchase health coverage through a health insurance exchange. These penalties can be significant and are determined on a monthly basis. The monthly penalty for the failure to offer coverage is $ multiplied by the total number of full-time employees (which number may be reduced by up to 30). Full-time employee for this purpose is defined as an employee who works an average of 30 or more hours per week with 130 hours per month treated as equivalent to 30 hours per week. In order to determine which employees are considered full-time employees, there are two safe harbors that allow an employer to determine full-time status during a measurement period and then offer coverage to employees determined to be full-time during a subsequent stability period. One safe harbor is for the employees considered to be ongoing employees; the second applies to newly hired, variable hour or seasonal employees. These 2014 rules apply to both grandfathered and non-grandfathered plans. Employer Shared Responsibility Mandate When is the employer shared responsibility mandate effective? The mandate is effective January 1, However, recognizing the difficulty of changing terms and conditions of coverage mid-year, the new guidance provides transition relief for plans with fiscal year plan years that were in existence on December 27, No penalty will be assessed prior to the first day of the 2014 fiscal year plan year with respect to: (i) employees (whenever hired) who would be eligible, as of the first day of the 2014 fiscal year, under the eligibility terms of the plan as in effect on December 27, 2012, and (ii) other full-time employees if at the most recent enrollment period prior to December 27, 2012 at least 1/3 of all employees (full-time and part-time) were offered coverage or at least 1/4 of all employees were covered as of December 27, 2012 and were not eligible for a calendar year plan of the employer as of December 27, 2012, provided such full-time employees are offered affordable minimum value coverage no later than the first day of such 2014 fiscal year plan year. Relief is also provided for mid-year elections under a cafeteria plan for a group health plan with a fiscal year beginning in 2013 and ending in The employer may amend the cafeteria plan to permit an employee who elected salary reduction for health coverage to revoke or change his election prospectively and/or to permit an employee who did not make a salary reduction election for health coverage to make such an election prospectively, in both cases without regard to whether a status change permitted under the cafeteria regulations has occurred. This permits an employee to drop employer coverage and enroll through an Exchange or to enroll in employer coverage to comply with the individual responsibility mandate (and avoid an individual penalty) in effect after December 31, Drinker Biddle Note: Most fiscal year plans will be able to qualify for this transition rule. Employers that have a disproportionately low number of eligible employees, however, may not. Also note that even if coverage is not provided until the fiscal year begins, the employer must report whether employees have been offered affordable minimum value coverage for the entire 2014 calendar year. What is the employer shared responsibility mandate? Under health care reform, an applicable large employer, as defined below, may be subject to a penalty if the employer either fails to offer minimum essential coverage to all but 5% (or, if greater, five) of its full-time employees (and also their dependents) or offers coverage that is considered unaffordable or as not providing the required minimum value. Dependents for this purpose are children (as defined in Code 152(f)(1)) under the age of 26 and include biological children, adopted children, stepchildren and Employee Benefits & Executive Compensation Practice Group 2

3 foster children. Coverage of spouses is not required. Coverage is affordable for a particular employee if that person s required contribution for single coverage under the employer s lowest cost option meeting the minimum value standard does not exceed 9.5% of the employee s household income for that taxable year. Because an employer likely will not know an employee s household income, the IRS has created three safe harbors, two of which are new under the proposed regulations, under which an employer may determine affordability. The penalties are called an assessable payment under Section 4980H of the Internal Revenue Code (Code) and may be referred to as the employer shared responsibility mandate, the employer play or pay tax, or sometimes, simply the employer mandate or employer penalty. Transition Rule: An employer who does not currently offer dependent coverage will not be liable for a penalty in 2014, provided the employer takes steps during 2014 to add dependent coverage by the 2015 plan year. Drinker Biddle Note: The prior guidance required that minimum essential coverage be offered to 100% of full-time employees. The new standard permits the requirement to be met if an employer offers coverage to all but 5% (or, if greater, five) of its full-time employees (referred to as the 95% standard). This lesser standard was adopted to provide a cushion for inadvertent errors but it is not limited to inadvertent failures and thus also permits an employer to exclude up to 5% (or, if greater, five) of its full-time employees by design. Notably, an employer taking advantage of this 95% coverage could still be subject to the unaffordable coverage penalty for a full-time employee who is not offered coverage if that employee receives a premium tax credit or costsharing reduction to obtain coverage on the exchange. Drinker Biddle Note: Although additional guidance would be helpful to clarify, it is likely that most employer-sponsored group health (major medical) coverage, whether insured or self-insured, constitutes minimum essential coverage. Minimum essential coverage does not include certain HIPAA excepted benefits such as stand-alone dental or vision coverage or flexible spending accounts. Drinker Biddle Note: Whether a plan provides the required minimum value may be determined using a minimum value calculator, design-based safe harbor checklists or if a plan has nonstandard features, actuarial certification. The Department of Health and Human Services (HHS) recently released the minimum value calculator (MV Calculator) available at regulations/index.html. The checklists have not yet been issued. Who is an applicable large employer subject to the employer mandate? An applicable large employer is one that in the previous calendar year employed on the average at least 50 fulltime employees, including seasonal workers, and taking into account for this purpose only, part-time employees on a full-time equivalent basis (see below for required calculation). Full-time is defined as an employee working 30 or more hours per week. The determination of large employer status is made on a controlled group basis. Thus, an entity that is a member of a controlled group and that employs only ten employees will be a large employer subject to the employer mandate if all members of the controlled group employ, in the aggregate, more than 50 full-time employees (including full-time equivalent employees). Only hours for service performed in the United States are taken into account. An employer that employs a significant number of seasonal workers will not be a large employer if such employer s workforce exceeds 50 full-time employees for 120 or fewer days during the calendar year and those employees in excess of 50, who were employed no more than 120 days were seasonal workers. Four calendar months may be used instead of 120 days to make this determination. Transition Rule: In determining large employer status for 2014, an employer may use a period of at least six consecutive calendar months in 2013 rather than the entire calendar year as otherwise required. Calculation of Full-Time Equivalents: To determine the number of full-time equivalent employees for a calendar month, add up all the hours worked by employees who are not full-time employees during that month (up to 120 hours for each such employee) and divide by 120. Drinker Biddle Note: Although the controlled group is considered a single employer for purposes of determining large employer status, the penalties are assessed with respect to each separate member of the group based on the coverage provided by each such member to its own full-time employees. Drinker Biddle Note: Seasonal workers are defined as certain agricultural workers and retail workers during holiday periods, as provided under Department of Labor regulations and determined on a reasonable good faith basis, and by analogy workers under similar circumstances. In determining full-time employees for purposes of the no coverage and affordability penalties, the term seasonal employee is used rather than seasonal worker. Seasonal employee is not defined. Until further guidance, employers may use a reasonable good faith interpretation in determining seasonal employee status. The preamble to the proposed regulations does state, however, that the 120 day standard referenced above for seasonal workers does not apply in determining seasonal employee status. Thus, an employee working more than 120 days per year may still qualify as a seasonal employee. Employee Benefits & Executive Compensation Practice Group 3

4 What constitutes an offer of coverage for purposes of determining if a penalty should be assessed? An employer will be treated as not having offered coverage to a full-time employee for a plan year if the employee does not have an effective opportunity to elect to enroll or decline to enroll at least once during the plan year. An effective opportunity is based on the facts and circumstances, such as the adequacy of the notice provided and the period of time to accept or reject the offer. A full-time employee is not treated as offered coverage for a calendar month if the employer fails to offer coverage for any day in such month. There is an exception to this rule for employees who terminate employment during the month if they would have been offered coverage for the entire month had they remained employed. An employer will also not be penalized if the employer fails to offer coverage to an otherwise eligible employee who fails to make timely payment of the employee portion of the premium. This employee failure to pay exception only applies for the remainder of the coverage period (i.e., plan year) and only if the employer applies late payment rules similar to those required for COBRA coverage. Drinker Biddle Note: No specific rules are provided regarding proof of the offer. Employers must keep records adequate to demonstrate that the offer was made. The IRS indicates in the preamble to the regulations that the offer could be made electronically and refers to the safe harbor method for use of electronic media under IRS rules. The IRS rules for electronic distribution, although somewhat easier to satisfy than similar rules under ERISA, still require a number of conditions to be satisfied. One of these is that the plan must obtain the participant s affirmative consent to electronic distribution unless the participant is effectively able to access the electronic medium used to provide notice of the offer and the plan advises the participant of the ability to request and receive the notice in writing on paper at no charge. A consent is not effective unless the plan has provided certain required disclosures in writing to the participant. What are the safe harbors for determining affordable coverage? Previous guidance provided a safe harbor based on the employee s Form W-2 wages as reported in Box 1. The proposed regulations add two additional safe harbors: the rate of pay safe harbor and the federal poverty line safe harbor. An employer may use one of the safe harbors only if it offers to its full-time employees and their dependents minimum essential coverage that provides minimum value for self-only coverage. In all cases affordability is determined with respect to the employee s cost for self-only coverage under the lowest cost option providing minimum value. Different safe harbors may be used for different categories of employees but the categories must be reasonable and the safe harbor selected must be applied uniformly and consistently to all employees in each category. Form W-2 Safe Harbor: Affordability under the Form W-2 safe harbor is determined after the end of the year. The coverage is affordable if the employee s contribution for the year does not exceed 9.5% of the W-2 Box 1 wages. Special rules apply for partial years. Note that wages as reported in Box 1 do not include pre-tax 401(k) deferrals or cafeteria plan salary reduction contributions. Rate of Pay Safe Harbor: The employee s required monthly contribution is affordable if it does not exceed 9.5% of monthly wage. Monthly wages are determined as of his or her beginning of the year as an amount equal to the hourly rate of pay times 130 for an hourly employee and the monthly salary for a salaried employee. This safe harbor is not available if the hourly wage or salary is reduced during the year. Federal Poverty Line Safe Harbor: The employee s cost for the coverage is affordable if it does not exceed 9.5% of the federal poverty line (FPL) for a single individual (currently $11,490). The most recently published poverty guidelines as of the first day of the plan year for the health plan may be used. If using this safe harbor, the maximum monthly employee contribution is $90.96 ($11,490 x.095 = $1,091.55; $1, = $90.96). How much are the penalties? Two types of penalties will be imposed under Code 4980H starting in 2014: the no coverage penalty and the unaffordable coverage penalty. The penalty amounts will be adjusted for inflation after As indicated above, although large employer status is determined on a controlled group basis, the penalties are assessed with respect to each separate employer member of the group. > > No Coverage Penalty: Applies if a large employer fails to offer minimum essential health coverage to 95% of its full-time employees and their dependent children, and at least one full-time employee receives subsidized coverage (either premium assistance or cost-sharing assistance) for coverage purchased through a health insurance exchange. > > No Coverage Penalty Amount: $ per month for each full-time employee ($2,000 per Employee Benefits & Executive Compensation Practice Group 4

5 year), excluding up to 30 such employees from the calculation. If the employer is a member of a controlled group, the 30 employees eligible for exclusion are allocated ratably among all members based on the number of full-time employees employed by each. If a member s share is less than one, it will be rounded up to one employee. Drinker Biddle Note: As noted above, dependent coverage is required for this purpose and dependent includes children (as defined in Code 152(f)(1)) up to age 26. Dependent does not include spouses. > > Unaffordable Coverage Penalty: Applies if the minimum essential health coverage offered by a large employer is unaffordable or does not provide minimum value and at least one full-time employee receives subsidized coverage (either premium assistance or cost-sharing assistance) for coverage purchased through a health insurance exchange. > > No Coverage Penalty Amount: $250 per month for each full-time employee receiving premium assistance ($3,000 per year) for whom the employer coverage is unaffordable, but not to exceed the amount of the no coverage penalty calculated for that month. Drinker Biddle Note: The unaffordable coverage penalty applies if any full-time employee of the employer receives subsidized coverage. Thus, an employer that avoids the no coverage penalty by offering coverage to less than 100% but more than 95% of full-time employees is still subject to the unaffordable coverage penalty for any excluded full-time employee who receives subsidized coverage for coverage purchased through a health insurance exchange. This is true even if the employer s coverage otherwise meets the affordability and minimum value requirements. Drinker Biddle Note: Whether a full-time employee is eligible to receive subsidized coverage for health coverage purchased through a health insurance exchange will be determined by the exchanges in accordance with IRS and HHS rules. Generally, premium assistance will only be available to taxpayers with income between 100% and 400% of the FPL for the taxpayer s family size (currently, FPL is $23,550 for a family of four). An employer will not be subject to the penalty with respect to an employee who is offered coverage under an employer-sponsored plan that is considered affordable under a safe harbor, as provided above, and provides the required minimum value. Drinker Biddle Note: Employees for purposes of compliance with the employer shared responsibility rules are common law employees. The definition expressly excludes leased employees, sole proprietors, partners in partnerships and 2% S corporation shareholders. In order to avoid the imposition of the penalties, it will be important to be sure that those individuals providing services to the employer are properly classified. How are the penalties assessed? The penalty is payable upon notice and demand. The IRS will provide an employer with certification that one or more employees have received premium tax credits or cost-sharing reductions. The employer will have the opportunity to respond before the notice and demand for payment is issued. Further guidance is expected regarding this process. Drinker Biddle Note: Unlike many penalties applicable to health plan administration, there is no self-reporting with respect to these employer mandate penalties. However, the IRS will assess penalties based on information provided through individuals tax returns and employers reporting of health insurance coverage. Who is a full-time employee? For purposes of the penalties under the employer shared responsibility mandate, a full-time employee is generally defined as an employee who works an average of 30 hours or more a week. Employers may treat 130 hours per month as equivalent to 30 hours per week, if applied on a reasonable and consistent basis. How is an hour of service determined? An hour of service includes each hour for which the employee is paid or entitled to payment for the performance of duties or due to vacation, holiday, illness, incapacity (including disability), layoff, jury duty, military duty, or leave of absence and includes all hours with all members of the employer s controlled group but does not include hours for service performed outside the United States. For hourly employees, hours are determined from records of hours worked or for which payment is made or due. For salaried and other non-hourly employees, actual hours may be counted in the same manner as for hourly employees or by using an 8 hours per day or 40 hours per week equivalency for each day or week respectively in which one hour is credited. Drinker Biddle Note: This approach is similar to the rules for counting hours of service under regulations issued under the Employee Retirement Income Security Act (ERISA). There are notable differences, however. The employer mandate rules require that all paid leave be counted whereas ERISA permits such hours to be limited to 501. In addition, the hour equivalencies differ. Employee Benefits & Executive Compensation Practice Group 5

6 The proposed regulations also contain an anti-abuse rule with respect to the use of equivalencies. The equivalency cannot be used if it would result in an understatement of the employee s hours. For example, an employee who works three 10-hour days per week would be credited 30 hours, not 8 hours per day which would result in only 24 hours. How is full-time status determined for purposes of the employer shared responsibility mandate? Newly Hired Employees Reasonably Expected to Work Full-Time If a newly hired employee (other than a seasonal employee) is reasonably expected to be a full-time employee, the employer is required to offer coverage. However, the employer may require the employee to first complete a 90-day waiting period. The employer will not be subject to penalties for this type of employee during such employee s initial full three calendar months of employment. Drinker Biddle Note: Please note that although the employer mandate penalty relief applies to the intial full three calendar months of employment, the waiting period under health care reform cannot exceed 90 days. In other words, a waiting period in excess of 90 days triggers other penalties under health care reform. Ongoing Employees and Newly Hired Seasonal or Variable Hour Employees To help employers determine if continuing employees and certain newly hired employees are full-time employees, the IRS has adopted safe harbor approaches that employers may use to make the determination and thus avoid paying a penalty under the employer mandate. Drinker Biddle Note: Employers are not required to use these safe harbors. For many employees, it will be quite clear whether the individual regularly works 30 hours per week and, therefore, should be considered a full-time employee for purposes of the employer mandate. However, there will be situations where the determination is not straightforward, such as when employees do not work a set schedule. The safe harbors are intended to provide employers with a measure of comfort that penalties will not be imposed when employers do not provide coverage following a determination that an individual is not a full-time employee under the safe harbors. Safe Harbor for Ongoing Employees (i.e., an employee who is already employed by the employer) Under the safe harbor method for ongoing employees, an employer looks back at the hours an employee worked over a specified period of time (the standard measurement period ) as the basis for determining whether that employee is a full-time employee for a prospective period of time (the stability period ). The standard measurement period must be a defined time period of 3 to 12 consecutive calendar months, as chosen by the employer and applied uniformly and consistently to all employees in the same category. An ongoing employee is generally an employee who has been employed by the employer for at least one complete standard measurement period. Employees who averaged at least 30 hours per week during the standard measurement period are automatically treated as full-time employees for the prospective stability period -- regardless of the employee s number of hours of service during the stability period -- as long as the employee remains an employee. The stability period for these full-time employees must be at least as long as the greater of (1) six months and (2) the standard measurement period. If an employer determines an employee does not average at least 30 hours per week during the standard measurement period, that employee s status as a non-full-time employee continues for the related stability period, which may not exceed the length of the standard measurement period. Because employers may need time between the standard measurement period and the associated stability period to determine which ongoing employees are eligible for coverage and to notify and enroll employees, an employer may make time for these administrative steps by having its standard measurement period end before the associated stability period begins. This administrative period following the standard measurement period may last up to 90 days, but may not reduce and may not lengthen the measurement period or the stability period. Employers will need to coordinate the administrative period so that it overlaps with the prior stability period to ensure that an employee who is determined to be a full-time employee during the prior measurement period will continue to be offered coverage through the end of the related stability period, even if that employee is determined not to be a full-time employee in the following measurement period. Drinker Biddle Note: Employers looking for a simplified means to administer the standard measurement period, stability period, and administrative period may wish to implement a one-year measurement period that ends 90 Employee Benefits & Executive Compensation Practice Group 6

7 days before a one-year stability period begins. For example, a measurement period that runs from October 3, 2012 to October 2, 2013, with an administrative period of October 3, 2013 to December 31, 2013, and a stability period of January 1, 2014 to December 31, This will ensure that the same periods may be used for both full-time and non-full-time employees, the administrative period includes the annual open enrollment period, and the stability period coincides with the plan year for the coverage offered by the employer. The proposed regulations provide that an employer with payroll periods of one week, two weeks or semi-monthly may adjust the measurement period to coincide with its payroll periods by shortening the measurement period at one end and extending it at the other to coincide with the beginning or end of a payroll period. For example, a calendar year measurement period may exclude the payroll period that includes January 1 provided it includes the entire payroll period that includes December 31 of the same year. measurement period. Whoever is determined to be full-time must be offered coverage for the entire associated stability period (including the following year s administrative period in the example from October 15, 2014 to December 31, 2014). If coverage meeting the 95% rule is not offered, the employer may be subject to penalties under the employer shared responsibility mandate. Standard Measurement Period October 15, October 14, 2013 Administrative Period October 15, December 31, 2013 Stability Period January 1, December 31, 2014 The illustration below shows how the measurement period, administrative period, and stability period should be coordinated for a year-over-year series of full-time employee determinations. Key Rules to Satisfy the Ongoing Employee Safe Harbor The standard measurement period (i.e., the look back period) must be at least 3 and no more than 12 consecutive months. The permitted length of the stability period (i.e., the prospective period) will depend on whether or not the employee is considered a full-time employee: For an individual who is determined to be a full-time employee, the stability period must be at least 6 months and may not be shorter than its related standard measurement period; and For an individual who is determined not to be a full-time employee, the stability period may not be longer than the standard measurement period. The administrative period may not be longer than 90 days. These 2014 rules apply to both grandfathered and non-grandfathered plans. How the Ongoing Employee Safe Harbor Works As illustrated by the example below, for ongoing employees, an employer would determine which employees worked full-time (i.e., an average of 30 or more hours per week) during the standard Transition Rule: An employer may adopt a transition measurement period for the 2014 stability period that is less than 12 months but at least 6 months, that begins no later than July 1, 2013 and ends no earlier than 90 days before the first day of the 2014 plan year. A calendar year plan that wants an administrative period beginning during mid- October (e.g. October 15) will need to begin the measurement period by mid-april (e.g. April 15). Safe Harbors for New Variable Hour and Seasonal Employees Under the safe harbor method for newly hired variable and seasonal employees, employers may use an initial measurement period to determine whether a particular variable or seasonal employee is a fulltime employee for a prospective stability period. These rules are similar to the safe harbor for ongoing employees, but take into account that there is no historical point of reference for a particular employee. Employee Benefits & Executive Compensation Practice Group 7

8 A variable hour employee is generally an employee for whom the employer cannot determine, based on the facts and circumstances, whether he or she is reasonably expected to work on average at least 30 hours per week. Pending further guidance, employers are permitted to use a reasonable, good faith interpretation of seasonal employee. Transition Rule: In determining whether a new employee is a variable employee or a full-time employee, an employer, effective January 1, 2015, is required to assume that the employee will continue to be employed for the entire initial measurement period. Thus, beginning in 2015 the employer cannot take into account, except in the case of a seasonal employee, the likelihood that the employee s employment will terminate during such initial period. The employer may use both a measurement period of 3 to 12 months that begins no later than the first day of the month following the employee s start date and an administrative period of up to 90 days for variable hour and seasonal employees. However, the measurement period and the administrative period combined may not extend beyond the last day of the first calendar month beginning on or after the one-year anniversary of the employee s start date (totaling, at most, 13 months and a fraction of a month). The stability period for such variable hour or seasonal employees must be the same length as the stability period for ongoing employees. For an employee determined to be a fulltime employee, the stability period must last at least six consecutive calendar months and be no shorter than the initial measurement period. If an employee is determined not to be a full-time employee, the stability period must not be more than one month longer than the initial measurement period (see the explanation in the following paragraph for additional rules about coordinating with the first full standard measurement period). Once a newly hired variable hour or seasonal employee who has been employed for an initial measurement period has also remained employed for an entire standard measurement period (i.e., the period applied to ongoing employees), the employer must re-test the employee for full-time status, beginning with that standard measurement period (and using the same rules as applied to ongoing employees). As with the above safe harbor, when an employee is determined to be a full-time employee, that employee must be treated as a full-time employee for the entire associated stability period. In contrast, if the employee is determined not to be a full-time employee initially, but is determined to be a full-time employee for the overlapping or immediately following standard measurement period, then the employee must be treated as a full-time employee for the stability period that corresponds to that standard measurement period (even if that stability period begins before the end of the stability period associated with the employee s initial measurement period). Drinker Biddle Note: The safe harbor for variable hour and seasonal employees provides some helpful transition rules for new hire situations, but there are several complexities in this process. Because of the maximum initial measurement period (totaling, at most, 13 months and a fraction of a month when combined with an administrative period), employers will probably need to make full-time employee assessments for new hires on a rolling basis (e.g., monthly) and will need to facilitate mid-year enrollment for any employee determined to be a fulltime employee. Key Rules to Satisfy the Variable Hour and Seasonal Employee Safe Harbor The initial measurement period (i.e., the look back period) must begin no later than the first day of the month after the hire date and must be at least 3 and no more than 12 consecutive months. The administrative period may not be longer than 90 days. If the initial measurement period does not begin on the hire date, the days between the hire date and the start of the initial measurement period count toward this 90 day limit. The total initial period (initial measurement period plus administrative period) before a stability period begins may not exceed 13 months and a fraction of a month. The permitted length of the associated stability period (i.e., the prospective period) will depend on whether or not the employee is considered a full-time employee. For an individual who is determined to be a full-time employee, the stability period must be at least 6 months and may not be shorter than its related initial measurement period. For an individual who is determined not to be a full-time employee, the stability period may not be longer than the initial measurement period plus one month. The employer must re-test the employee when that employee completes a standard measurement period (i.e., the individual has been employed long enough to be considered an ongoing employee). Employee Benefits & Executive Compensation Practice Group 8

9 These 2014 rules apply to both grandfathered and non-grandfathered plans. Note: If an employee is determined not to be a full-time employee during an initial measurement period, but is determined to be a full-time employee during the overlapping (or immediately following) standard measurement period, the employee must be treated as a full-time employee beginning with the stability period that corresponds to that standard measurement period, even if that period begins before the stability period corresponding to the initial measurement period ends. How the Variable Hour or Seasonal Employee Safe Harbor Works In this example (below), for newly hired variable hour and seasonal employees, the employer determines whether each employee worked full-time during the initial measurement period, which is the period that starts at the date of hire. Here, if the employee is determined to be a full-time employee, he or she must be offered coverage for the entire stability period of July 1, 2014 through June 30, If coverage is not offered, the employer may be subject to penalties under the employer shared responsibility mandate. The employer must then test the employee s status again based on the normal standard measurement period that begins after the newly hired variable employee s start date (e.g., October 15, 2013-October 14, 2014). If during such standard measurement period, such employee is determined not to be a full-time employee, the employee must still be offered coverage for the entire stability period (July 1, 2014 to June 30, 2015) associated with the initial measurement period. Initial Measurement Period Hire Date - May 10, May 9, 2014 Administrative Period May 10, June 30, 2014 Stability Period July 1, June 30, 2015 Can the employer use measurement periods and stability periods that differ in either length or in their starting and ending dates? Yes, the new guidance allows employers to use measurement periods and stability periods that differ either in length or in their starting and ending dates for the following categories of employees: > > Collectively bargained employees and noncollectively bargained employees; > > Each group of collectively bargained employees covered by a separate collective bargaining agreement; > > Salaried and hourly employees; and > > Employees located in different States. The selected periods must be applied uniformly and consistently for all employees in the same category. Because the penalties will be assessed separately for each separate entity in a controlled group, each separate entity may set its own measurement, administrative and stability periods. What if a new variable hour or seasonal employee has a change in employment status? If a new variable hour or seasonal employee has a material change in employment status before the end of the initial measurement period such that if such employee had begun employment in such new status, he would have reasonably been expected to work on the average at least 30 hours per week, the employer must treat him as a full-time employee. To avoid the no coverage penalty, the employer must offer coverage by the earlier of the first day of the fourth month following the change in status or, if earlier, provided he averages more than 30 hours per week during the initial measurement period, the first day of the first month following the end of the initial measurement period plus any associated administrative period. How are employees treated who have a break in service? An employee who is rehired or who resumes service after a period of at least 26 consecutive weeks in which no hour of service was credited may be treated as a new employee. An employer may also treat an individual who resumes service as a new employee if the period of absence (during which no hour is credited) is at least four consecutive weeks and exceeds the number of weeks of employment immediately preceding such period of absence. If these standards are not met, the employee is treated as a continuing employee. This means if he returns within a stability period in which he was previously treated as a full-time employee, he resumes that status and will be treated as offered coverage if coverage is offered on the first day he is credited with an hour of Employee Benefits & Executive Compensation Practice Group 9

10 service or, if later, as soon as administratively practicable. The break in service rule can be summarized as follows: If period of absence was Shorter than 4 weeks Then treat as continuing employee 4 weeks to 26 weeks rule of parity may be applied more than 26 weeks treat as new employee The proposed regulations contain special rules applicable to special unpaid leave. Special rules also apply to employment break periods of at least four consecutive weeks (disregarding any special unpaid leave) for employees of an educational institution. The special unpaid leave includes leave subject to either the Family and Medical Leave Act (FMLA) or the Uniformed Services Employment and Reemployment Rights Act (USERRA) and jury duty. In determining average hours of service per week during a measurement period, the special unpaid leave period or employment break period is excluded. Alternatively the employer may take the leave or break period into account and credit hours for such period at the average weekly rate accrued during the remainder of the measurement period. With respect to an employment break period, an educational organization may limit the hours credited in any calendar year for such break period to 501 hours. This 501 hour limit does not apply to special unpaid leave. Drinker Biddle Note: For an employee employed by an educational organization, these two averaging rules may be stacked (e.g., if a teacher has a five week medical leave during the school year and also does not teach during the summer break). Will There Be Additional Guidance Issued on the Employer Shared Responsibility Mandate? Yes, it is likely additional guidance will be issued, but it is uncertain whether this additional guidance will be issued in time for application to Topics that the IRS is considering addressing in future guidance include: > > Application of the rules to employees paid on a commission basis, adjunct faculty and transportation employees, such as pilots, who have safety-related hours limits; > > The IRS will accept comments regarding short-term or temporary employees and those in positions with high turnover rates but the IRS is concerned about the potential for abuse of any special rules; > > How to determine whether a new hire is reasonably expected to work an average of 30 hours per week (e.g., should there be a safe harbor and, if so, what factors should be applied); > > What type of transition rules should apply to merger and acquisition situations; > > How seasonal worker and seasonal employee should be defined; and > > How predecessor employer and successor employer (as included in the definition of employer for purposes of determining large employer status) should be defined. What Should Employers Do Now to Prepare for 2014? > > Identify whether employees are full-time employees under the 2014 rules (i.e., 30 hours per week or 130 hours per month). In particular, look at any worker who is currently excluded from health plan coverage. If full-time status cannot be readily determined, the employer will need to determine whether the safe harbors are viable for the organization. > > Engage in an analysis of costs based on different variables (e.g., cost of providing coverage to employees newly identified as full-time; evaluate potential penalty amounts for no coverage and unaffordable coverage). Be sure to consider tax implications, employee relations, need for coverage due to the individual shared responsibility mandate (i.e., the requirement that all individuals purchase health care coverage or pay a penalty), recruiting/ retention issues. > > Eliminate waiting periods that are in excess of 90 days. > > Evaluate current employment classifications and assess whether business needs can be met by reclassifying some employees and assess the business implications of providing or not providing coverage to such employees. > > If the safe harbors will be used for determining fulltime employees in order to comply with the mandate and avoid the penalties, decide on the measurement, administrative and stability periods to be used and establish or modify systems to track hours in accordance with regulatory requirements. > > Once strategic decisions are made, amend plan documents, update SPDs and open enrollment materials and establish a process to monitor ongoing compliance. Employee Benefits & Executive Compensation Practice Group 10

11 Employer Pay Or Play Mandate Drinker Biddle s Health Care Reform Update for Employee Benefit Plans April 2013 Here s how employers could be penalized for failing to offer affordable health care coverage, starting in 2014 Special Penalty Rules Start Here Does the Employer* have 50 or more full-time and full-time equivalent employees? Includes full-time employees (30+ hours/ week) ( FTEs ) Includes prorated number of part-time employees (i.e., full-time equivalent employees) *Determined on a controlled group basis No No penalty for failure to provide affordable coverage (less than 9.5% of household income) if employer uses IRS safe harbor (W-2 wages, rate of pay or federal poverty level threshold) No penalty for new hires during first 3 months of employment Penalties are assessed monthly, after IRS notice and demand No penalty Yes Does the Employer* offer coverage to at least 95% of all FTEs (and their dependent children)? *Employer for purposes of liability for the penalties themselves is determined separately for each corporate legal entity No No Did at least 1 FTE get coverage via the exchange and receive either the federal premium tax credit or cost-sharing assistance ( subsidized coverage )? Yes Yes Does the plan provide the minimum value? (Must pay at least 60% of the cost of anticipated allowed charges for essential health benefits coverage provided to a standard population) No Employer will pay No Coverage penalty ($2,000* per year for each FTE, excluding at least 1 and possibly up to 30 FTEs) Yes Does the employee s share of the premium for single coverage under the employer s lowest cost plan option exceed 9.5% of household income? No Yes Employer will pay Unaffordable Coverage penalty ($3,000* per year for each FTE receiving subsidized coverage on the exchange) Maximum penalty amount is No Coverage amount Does any FTE who is in the 5% not offered coverage receive subsidized coverage on the exchange? Yes No penalty No * Penalty amounts are adjusted for inflation, based on increase of average health insurance premium Employee Benefits & Executive Compensation Practice Group 11

12 Employee Benefits Health Care Reform Team If you have questions, please contact a member of the Drinker Biddle Employee Benefits Health Care Reform Team or your regular Drinker Biddle attorney. John D. Arendshorst (312) John.Arendshorst@dbr.com Sarah A. Burke New York, NY (212) Sarah.Burke@dbr.com Summer Conley Los Angeles, CA (310) Summer.Conley@dbr.com Lindsay M. Goodman (312) Lindsay.Goodman@dbr.com Robert L. Jensen Philaelphia, PA (215) Robert.Jensen@dbr.com Melissa R. Junge (312) Melissa.Junge@dbr.com Sharon L. Klingelsmith Philadelphia, PA (215) Sharon.Klingelsmith@dbr.com Sarah Bassler Millar (312) Sarah.Millar@dbr.com Joan M. Neri Florham Park, NJ (973) Joan.Neri@dbr.com Monica A. Novak (312) Monica.Novak@dbr.com Cristin M. Obsitnik (312) Cristin.Obsitnik@dbr.com Michael D. Rosenbaum (312) Michael.Rosenbaum@dbr.com Dawn E. Sellstrom (312) Dawn.Sellstrom@dbr.com Joshua J. Waldbeser (312) Joshua.Waldbeser@dbr.com Margaret R. Wickett (312) Margaret.Wickett@dbr.com Employee Benefits & Executive Compensation Practice Group Disclaimer Required by IRS Rules of Practice: Any discussion of tax matters contained herein is not intended or written to be used, and cannot be used, for the purpose of avoiding any penalties that may be imposed under Federal tax laws. CALIFORNIA DELAWARE ILLINOIS NEW JERSEY NEW YORK PENNSYLVANIA WASHINGTON DC WISCONSIN 2013 Drinker Biddle & Reath LLP All rights reserved A Delaware limited liability partnership One Logan Square, Ste Philadelphia, PA (215) (215) fax Jonathan I. Epstein and Andrew B. Joseph, partners in charge of the Princeton and Florham Park, N.J., offices, respectively. 12