Incentives to opt out.

[Guest Carly]

I also posted this in the Health Plan forum,,,,

We currently pay 100% of the insurance premiums for both individual and family coverage. We would like to decrease the number of individuals electing family coverage. There are a few ideas that have been thrown around:

1. Implement a full flex plan, provide employees with $X with which to purchase items they would like (health, dependent care, medical FSA). If they do not use all the money, they get the cash.

2. Simply paying employees to not select family coverage.

3. For those employees who are eligible for, but do not select family coverage, making an employer contribution into the 401(k) Plan (would this be subject to vesting?).

Any insight, issues, problems with any of the three above?

Thanks,,,

[SLuskin]

Carly, some of my clients offer incentives to those who have families, and the family member has employer-sponsored health insurance, and decline family coverage.

Others pay 100% for the employee and offer flex credits of 50% of the family premium.

[papogi]

One growing method to reduce the number of dependents for whom your plan is primary is to allow spouses on the coverage as primary only if they are not eligible for coverage elsewhere. If the spouse has a job somewhere else, they must take that coverage in order to come on your plan, making your plan secondary. This approach eliminates those spouses who select your coverage solely because it is richer than their employer’s plan.

[Lori Friedman]

When an employee opts out and takes cash instead of the benefit, aren't the cash payments simply treated as ordinary compensation to the employee?

Here's another thought... Are we describing a sort of reverse cafeteria plan election -- employees who take the benefit, rather than opting out, are forgoing cash in return for a benefit. In the absence of a Sec. 125 arrangement, should the employees who take the insurance coverage be taxed on the amount of the benefit? Does the opt-out create an employer after-tax contribution?

[KJohnson]

You might want to look here:

>

http://benefitslink.com/modperl/qa.cgi?db=qa_125&id=68

Q&A: Section 125 Plans

Answers are provided by Robyn Morris of R. C. Morris, Incorporated

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Opting out of health insurance - no Section 125 Plan in place

(Posted February 20, 1998)

Question 68: What if an employer gives its employees the option to opt out of medical care because the spouse has coverage. What are the tax consequences if there is no Section 125 Plan in place?

Answer: Sorry, not enough detail...so I will make up some details to answer what I hope is your question.

Scenario I - The employer gives employees who DO NOT take the health insurance an additional $1,000 per year in pay. If no Section 125 Plan is in place, this is problematic. It constitutes a choice between cash and benefits. Without a Section 125 Plan in place, all employees who had the choice (even those who took the benefits) should be taxed on the additional $1,000.

Scenario II - The employer pays for the entire cost of health insurance for employees. An employee who opts out of the health insurance program does not receive additional compensation - just the gratitude of his/her employer. No requirement for a Section 125 Plan.

Scenario III - The employer requires employees who take health insurance to pay on an after-tax basis. An employee who opts out of coverage is avoiding payment of the premium expense on an after-tax basis. No requirement for a Section 125 Plan.

Scenario IV - A company offers pre-tax payment of health insurance premium. An employee opts not to be covered, and therefore takes full compensation - he does not pay toward the cost of premium. (Pre-tax is the key here...) Without a Section 125 Plan in place, this arrangement would require that all individuals who had a choice have incurred taxable income.

In general, employers find Scenarios I and IV SO UNAPPEALING that they either implement a Section 125 plan or do not offer the choice of cash or benefits without a Section 125 Plan in place.

I hope that one of these four scenarios answers your question.

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Important notice: Answers are provided as general guidance on the subjects covered in the question and are not provided as legal advice to the questioner's situation. Any legal issues should be reviewed by your legal counsel to apply the law to the particular facts of your situation. The laws, regulations and court decisions in this area change frequently. Answers are believed to be correct as of the posting dates shown. The completeness or accuracy of a particular answer may be affected by changes in the laws, regulations or court decisions that occur after the date on which that Q&A is posted.

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Copyright 1997-1999 R. C. Morris, Incorporated

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[GBurns]

It is quite possible that that 1998 opinion expressed by Robyn Morris might have been different or might have been expanded if the Court opinions in Express Oil Change, and the other similar cases in other Circuits, had been available at that time.

Express Oil Change, Inc v U.S., 24F. Supp. 2d, 1249, 20 E.B.C. 2184 (N.D. Ala. 1998) aff'd, 1998 U.S. App. LEXIS 37753 (11th Cir. 1998). Read the lower court and Appellate Court documents and opinion.

[KJohnson]

My understanding is that the IRS has said that it will not follow Express Oil outside the 11th Circuit. The EBIA manaul also notes that even in the 11th the IRS might aruge that Express Oil only applies to FICA, FUTA and withholding but does not apply to what amounts are includible in an employee's income.

[Lori Friedman]

When "opt-out" benefits are taxable to the employee (i.e. no Sec. 125 structure in place), isn't the amount simply lumped in with other Form W-2, Box 1 wages, salaries, etc.? As far as I know, there's no special code or box on Form W-2 for distinguishing the taxable benefit from other compensation.

[austin3515]

So does this mean that as long as there is a 125 plan, employers can pay people to opt out of benefits? Does the opt out arrangement need to be outlined in the plan? For example, as part of the 125 plan, must the employer simply say something like "If you opt out of coverage we will pay you 50% of whatever your premiums otherwise would have been"?

[Don Levit]

What about this scenario:

Employee has a separate individual policy which maxes out at $50,000 of benefits.

Employee wants to keep the employer plan, but take the savings in family premiums (about 80%) by raising his deductible to $50,000, to put into his 401(k) at his employer.

Is this a taxable event?

Don Levit

[K2retire]

So does this mean that as long as there is a 125 plan, employers can pay people to opt out of benefits? Does the opt out arrangement need to be outlined in the plan? For example, as part of the 125 plan, must the employer simply say something like "If you opt out of coverage we will pay you 50% of whatever your premiums otherwise would have been"?

Where I used to work we were told that if you didn't use all of the benefits that the employer deposited to the plan you got 25% in cash. My impression was that was an IRS rule, although I'm not positive. It could have been a plan provision.

[austin3515]

YUou must have the opportunity to receive the money in cash to be able to make a 401k election, so if you had the opportunity to receive it in cash, you would then have a cash ord eferred arrangement which, requires a Section 125 plan. Absent a 125 plan, a portion of EVERYONE's premiums would be taxable (or so goes my interpretation of what Robyn said).

My big question is, must this all be in the form of a written section 125 plan document?

[Guest Penelope]

So does this mean that as long as there is a 125 plan, employers can pay people to opt out of benefits? Does the opt out arrangement need to be outlined in the plan? For example, as part of the 125 plan, must the employer simply say something like "If you opt out of coverage we will pay you 50% of whatever your premiums otherwise would have been"?

Any choice between nontaxable and taxable benefits, including a choice between nontaxable premium payments and a cash "opt-out" payment, must comply with section 125. Section 125 requires that any such arrangement be set forth in a written plan. So yes, the opt out arrangement must be in writing. The provision would have to be somewhat more detailed than the sentence you quote above, since the 125 plan must incorporate other statutory requirements.