Guest Article

(From the September 27, 2010 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

IRS Asks How Non-Discrimination Rules Should Apply to Insured Group Health Plans

Effective for plan years beginning on or after September 23, 2010, non-grandfathered insured group health plans are prohibited from discriminating in favor of highly compensated individuals in substantially the same way as are self-insured group health plans. Before issuing guidance, the IRS is requesting public comment on how these rules should be applied to insured plans.

Favoring the Highly Compensated Is Prohibited

Effective for plan years beginning on or after September 23, 2010, the Patient Protection and Affordable Care Act as amended (PPACA) prohibits insured group health plans (except those that are grandfathered) from discriminating in favor of highly compensated individuals. Generally, the PPACA extends the nondiscrimination rules that apply to self-funded plans under Code § 105(h)(2) to insured group health plans. Essentially, Code § 105(h)(2) prohibits a plan from discriminating in favor of highly compensated individuals in eligibility to participate and in benefits provided.

Code § 105(h)(2) defines a "highly compensated individual" as: (a) one of the 5 highest paid officers, (b) a shareholder who owns (after application of the aggregation rules under Code § 318) more than 10 percent of the value of the employer stock, or (c) one who is among the highest-paid 25 percent of the employees. It defines the benefits provided under a self-funded plan as discriminatory unless all the benefits provided for participants who are highly compensated individuals are provided for all other participants. In terms of eligibility to participate, Code § 105(h)(2) requires that the plan benefit at least 70 percent of all employees (or, if at least 70 percent of the employees are "eligible to benefit" under the plan, the plan must benefit 80 percent of the employees who are "eligible to benefit."). Alternatively, the plan must benefit the employees who qualify under a classification set up by the employer and approved by the Treasury Department as nondiscriminatory. Certain categories of employees can be excluded in determining whether these percentage tests are met (i.e., part-time or seasonal employees, employees under age 25, etc.).

Final regulations under Code § 105(h) were issued nearly thirty years ago, in 1981.

Penalties for Noncompliance

The Notice points out that the penalties for noncompliance with Code § 105(h) will differ for insured plans. If a self-funded group health plan violates Code § 105(h)(2), the highly compensated individuals under the plan lose the tax benefit (i.e., their excess reimbursement is includible in income). In the case of insured plans, however, the failure to comply with Code § 105(h)(2) will subject the plan to penalties of $100 per day per individual discriminated against under Code § 4980D, and to potential civil action under ERISA to compel the plan to provide nondiscriminatory benefits (or to provide other appropriate equitable relief).

Comments Requested

In applying the Code § 105(h)(2) requirements to insured plans, the PPACA requires that the same definition of "highly compensated individual" be used, and requires that "similar" rules be applied in determining whether an insured plan is discriminating in eligibility to participate or in benefits provided. The PPACA also allows for "similar" rules to be developed in determining who the "employer" is when applying the nondiscrimination requirements (i.e., in the application of the controlled group rules under Code § 414(c), etc.). These are the areas, it would seem, where comments would be most relevant, although the Notice broadly requests public comments on any additional guidance that would be helpful in applying the Code § 105(h)(2) nondiscrimination requirements to insured group health plans.

Comments are requested by November 4, 2010.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations. If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Bart Massey 202.220.2104, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Deborah Walker 202.879.4955. Copyright 2010, Deloitte.