IRS Guidance on Unconditional Opt-Out Payments

Written by Eva A. Rasmussen

Many employers offer employees a cash incentive (an "Opt-Out Payment"), if they waive coverage under the employer’s health plan. The rationale is that the Opt-Out Payment is less expensive than the employer's cost in subsidizing the coverage. Employers that offer Opt-Out Payments should be mindful of the IRS' position on the value of the Opt-Out Payments when calculating affordability for purposes of Affordable Care Act penalties.

I. Impact on Affordability

Last month, the IRS issued Notice 2015-87 which provides that an unconditional Opt-Out Payment must be added to the cost of the employee’s contribution to calculate whether the employee’s cost meets the Affordable Care Act's affordability standard for purposes of determining if an employer is liable for penalties. The IRS takes the position that the employee's cost of purchasing health coverage from the employer includes foregoing the Opt-Out Payment in addition to the cost of the employee's share of the premiums.

For example, if an employee’s cost for employee-only coverage is $300/month and the employer offers him $100/month to waive coverage, the IRS considers the employee to have lost $400 ($300 out of pocket and $100 foregone) in compensation in order to purchase coverage. In 2016, coverage is considered affordable if the employee’s cost for employee-only coverage does not exceed 9.66% of the employee's compensation as reported in Box 1 of Form W-2 (among other safe harbors). At $400, the coverage will be affordable if the employee earns at least $4,140/month ($400/9.66%). At $300/month, the coverage is affordable if the employee earns at least $3,105 ($300/9.66%). To the extent the coverage is not considered affordable, the employer may be liable for additional penalties.

In 2016, assuming coverage is offered to 95%of all full-time employees, the penalty will be $3,240 per full-time employee who receives a premium tax credit for coverage purchased on the Marketplace.

II. Effective Date

If an employer adopted an arrangement that provides unconditional Opt-Out Payments on or before December 16, 2015, it will not be required to consider the Opt-Out Payment in calculating the affordability of an employee's healthcare until an unspecified effective date which will be provided in future regulations. Nor will the amount of the Opt-Out Payment have to be reported as an employee contribution on Form 1095-C until the future regulations are finalized. An arrangement will be considered as adopted on or before December 16, 2015 if:

(a) the opt-out arrangement (or a substantially similar arrangement) was offered for a plan year that includes December 16, 2015;

(b) the arrangement had been adopted by a board, committee or authorized officer on or before December 16, 2015; or

(c) employees had received written communications on or before December 16, 2015 indicating that the opt-out arrangement would be offered to employees in the future.

The future regulations will also request comments on the treatment of conditional Opt-Out Payments such as when an employer requires that an employee have coverage from another source in order to be eligible for the Opt-Out Payment.

Even before the effective date of the regulations (and in any event for plan years beginning before 2017), an individual may use the value of an Opt-Out Payment to increase the employee's required contribution for purposes of the individual mandate and eligibility for a premium tax credit.

III. Next Steps

If you had an arrangement providing Opt-Out Payments in effect on or before December 16, 2015, you may continue this arrangement without including the value of the Opt-Out Payment as part of the employee's contribution. However, this relief is expected to end when the final regulations become effective. Employers setting up a new arrangement that includes Opt-Out Payments should be mindful of the IRS’ position on determining the affordability of coverage when Opt-Out Payments are provided.

If you have any questions about Opt-Out Payments or any aspect of the Affordable Care Act,please contact Eva Rasmussen (earasmussen@cbdm.com) or Richard Muser (rkmuser@cbdm.com), lead attorneys at CB&D's Employee Benefits, Executive Compensation and ERISA Litigation Group.

About the Author
Eva A. Rasmussen
Benefits Counsel
Eva A. Rasmussen concentrates on the design, implementation and communication of qualified plans and deferred compensation arrangements as well as...
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