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Key Employee Insurance Paid outside Cafeteria Plan


Nathan
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We have a small employer with less than 15 employees, they offer a group health plan to employees with ER paying 25% of premium and EE's paying remaining 75% of premium. ER also pays 100% of 1 Key EE's insurance outside of the Cafeteria Plan as a general business expense.

When running the necessary non-discrimination tests for the Cafeteria Plan we are including both the ER Paid and the EE Paid premiums for the Health insurance.

(1) Is it proper or is ER permitted to exclude the Key EE premiums paid as these were paid outside of the Cafeteria Plan as a general business expense? or does this ER paid premium amount need to be factored in for our Non-Discrimination testing?

(2) If the above is not permitted, can we elect to run our Non-Discrimination testing only looking at the EE's portion of the Health Insurance premiums being paid? Thus the ER paid premiums would not be included in the Non-Discrimination testing.

Problem is that with the Key EE's ER paid insurance premiums factored in the Cafeteria Plan fails the 25% concentration test.

Thank you for any assistance with this question - Nathan

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I would get legal advice about this arrangement.

I would think that your state small group health insurance laws do not permit this discriminatory treatment.

I also think that this would disqualify your Cafeteria Plan even before you get to the issue of testing.

But, you did not say whether or not the amount paid is reported as income to the EE and whether or not the EE's portion of the premium is pre-taxed through the cafeteria plan.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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I can't speak to the applicability of state insurance laws and you should definitely get advice from counsel but it appears from your facts that the Key Employee is not receiving a benefit from the cafeteria plan and therefore is not a "participant." You may be able to exclude the participant from the testing.

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GBurns -

I don't believe the amount being paid is being reported as income to the EE, there is not an EE portion running through the cafeteria plan as the entire premium is being paid by the Employer.

Chaz -

The Key Employee is participating in the Cafeteria Plan, but with regard to the HSA benefit as they are currently contributing money to their HSA account on a pre-tax basis through the cafeteria plan. Would it be recommended that this individual fund their HSA with after tax dollars and just claim the deduction for the HSA contribution on their tax return when they file their taxes? Then they would not be a participant with in the Cafeteria Plan at this point.

Thank you - Nathan

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If this employee have a choice between cash and qualified benefits, he has to be in the cafeteria plan.

Even if you take this Key Employee (HCE) out of the cafeteria plan he would still be subject to the employer's Employee Benefit Program/Plan which is where I think that you have one of your problems.

I also think that you have a problem with your state small group/employer health insurance laws especially regarding employer contribution.

Doesn't the group health plan state the employer contribution arrangement under which it was issued? Not that this means that it meets the state requirements. I doubt that the insurer issued the policy with 100% ER contribution for a single employee.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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  • 4 years later...

Can I vary the facts a bit to see what this group says about this situation.

Small (under 15) mom and pop company with fully-insured group health plan and a POP to cover employee's share of health and dental pre-tax.  The Mom and Pop are both HCEs but everyone else is an NHCE.  The cafeteria plan is amended to exclude participation by HCEs.  Company pays 100% of HCEs premiums outside of the cafeteria plan and does not count the amount as income to the HCEs.  The company pays 70% of everyone else's premiums.  (That satisfies the state employer contribution requirement.) 

Is there any discrimination issue under the cafeteria plan with the company paying different percentages of different employees' costs (e.g., 100% for HCEs and 70% for NHCEs) when the HCEs are excluded from the cafeteria plan altogether?  Thanks

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This is something that you may want to get some formal (e.g., not from here) legal advice but I take the position that someone participates in a cafeteria plan only if he or she makes an election between taxable compensation and nontaxable benefits.  Here, it appears as if the HCEs are not making such an election and therefore are not participating.  They certainly are not benefiting because their compensation is not being reduced on a pre-tax basis to pay for benefits.  Indeed, it isn't being reduced at all.

Therefore, the plan does not run afoul of the Section 125 nondiscrimination tests.

Counter-intuitively, if the Company paid 90% of the cost of the coverage for HCEs and 70% for NHCEs, it WOULD, in my view, violate the tests

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Thanks.  Leevana, I've seen reference (EBIA) to the eligibility test for POPs including something of a "benefits" component based on the IRS regs and thus arguably could be read to set some restrictions on the rates paid.  There seems to be some uncertainty over the reach of the benefits component however and whether that would prohibit varying rates so long as all employees are eligible for the same group health insurance benefit.

In light of that, what if I added another wrinkle and just proposed amending the cafeteria plan to exclude participation by HCEs.  In this case, that wouldn't have any adverse impact because, as Chaz notes, the HCEs weren't participating in the cafeteria plan at all.  Under this approach, it seems difficult for there to be any sort of violation of the 125 Plan.

I posted a similar thread on the health plan board.  Sorry for the multiple posts but I'm frustrated by the lack of guidance / clarity on what I think is probably a very common practice among many small employers where top folks have all their premiums covered and others do not.

 

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Disclaimer, I am not an attorney and am going on what I have learned and remember from over the 37 years as a group rep.  I believe you can amend the plan as you suggest.

sorry, having issues copying links, here is something from a source, Flexbenefit.com.  Google “premium only plan non discrimination” and you will find more.

 

Good Luck,  Lee

But there is some good news for POP plans! Employers will get an automatic pass of the three non-discrimination tests if they can satisfy one simple requirement. If the ratio of non-highly compensated employees participating in the POP plan compared to the ratio of highly compensated participating in the POP plan is 50% or greater, the employer will be treated as passing all of the non-discrimination tests. 
Okay, maybe that actually sounds complicated, but it’s pretty simple to understand once you’ve seen an example. The following information applies to XYZ Company:

  • 100 non-highly compensated employees
    • 60 participate in the POP plan (60 / 100 = 60%)
  • 30 highly compensated employees
    • 25 participate in the POP plan (25 / 30 = 83.33%)

We’re not done yet. There is one more math problem to calculate:
60% / 83.33% = 72.03%

72.03% is greater than 50% so XYZ Company automatically passes the three non-discrimination tests. It would probably be more appropriate to say XYZ Company does not have to conduct the tests relating to contributions and benefits or key employee concentration because the IRS is comfortable that enough non-highly compensated employees are eligible and participating in the POP plan.
 
Employers that satisfy the 50% ratio are considered to have met the POP plan “safe harbor test for eligibility.” If the ratio is less than 50%, the employer doesn’t necessarily fail the non-discrimination testing. They might even be able to pass this test with a ratio that is less than 50%. The ratio to pass actually gets smaller as the concentration of non-highly employees participating in the POP plan increases. However, at a high level, understand that a ratio of 50% or greater will guarantee a pass for any employer.  

 

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