Self-Insured medical plan: "Eligibility" NonDiscrimination

[Moe Howard]

Let's say that a self-insured (medical reimbursement plan) meets the non-discrimination "ELIGIBILITY TEST" .... because the plan benefits 70% or more of all nonexcludable employees.

However, according to the plan document -- the "length of service" requirement to become a participant in the plan is as follows:

** Highly compensated employees must perform only 30 days of employment before they can enter the plan ...... while non-highly compensated employees must perform "12 months" of service" before they can enter the plan.

Common sense tells me that since there is such a huge difference between the "length of service" requirements, which clearly is in favor or the highly compensated employees, then this plan must obviously fail some type of eligibility test .... which will cuase the highly comps to have to report their plan-paid medical claims as taxable income. But Nope! ... my common sense logic is wrong, Simply because the ELIGIBILITY TEST for non-discrimination (IRC 105-h) makes no mention of differences in "length of service for eligibility", no matter how bazaar the difference might be.

So what am I failing to understand ? Can a medical reimbursement plan really have such a favorable lenghth of service requirement for only the highly comps ?

[Kirk Maldonado]

I suggest you read Treas. Reg. Section 1.105-11.

[Moe Howard]

Kirk: ..... Nope ! The answer to my question is not in Treas Reg 1.105-11.

Treas Reg 1.105-11 makes no mention of a plan's "length of service requirements for eligibility" affecting the nondiscrimination ELIGIBILITY TEST.

Does anyone know the answer ???

[Kirk Maldonado]

I think that 1.105-11©(3)(ii) indicates that such an arrangement does not work.

[Moe Howard]

Kirk, thanks anyway .... but Treas Reg 1.105-11 ©(3)(ii) deals only with nondiscrimination of BENEFITS. My question is strictly in regards to nondiscrimination as to ELIGIBILITY to participate.

The plan I described in my initial post above passes both the IRC 105 "nondiscrimination ELIGIBILITY test" and the IRC 105 "nondiscrtimination BENEFITS test" ..... it's just that IRC 105 makes no requirements for deeming a self-insured medical plan to be discriminatory if it has unequal "length of service requirements" for highly comps & non-highly comps.

Does anyone know if a plan document must have similar "length of service requirements in order to participate", for the highly comps & the non-highly comps ?

[Kirk Maldonado]

I disagree. THere is a discrimination in benefits because there is a disparity in the eligibility criteria.

Do you really think your situation passes the smell test?

[Moe Howard]

Kirk: The ole smell test won't get it now days. Clients want proof when they are told that their plan discriminates. The smell test was OK in the ole days, before "employee benefits" was a full-time profession. But now days, clients want to be shown the "written law" that they are claimed to have viloated, not just a good ole hunch.

The BENEFITS TEST says that -- All participants must be eligible for the same amount of benefits.

Kirk: I can't agree with your statement that 'There is discrimination in benefits because there is disparity in the eligibility criteria'. Because ... an employee is not a participant until he meets the eligibility criteria of the plan ... employees who are not yet participants are excluded from the BENEFITS TEST of IRC 105.

[GBurns]

I have to side with Kirk..

Treas Regs 1.105-11©(ii) is titled "Classification test" and it clearly deals with the ELIGIBILITY to be in the plan to then get the benefits. It is not a test of receiving the benefits.

In fact the whole section mainly deals with Eligibilty e.g the very next section (iii) continues onto "Exclusion of certain employees".

[Moe Howard]

GBurns: Nope. Kirk is in left field, but you are out in the parking lot.

You say that you side with Kirk ? Well, Kirk uses Treas Reg 1.105-11©(3)(ii) [the benefits test] as support .... and you use Treas Reg 1.105-11©(2)(ii) [an eligibility test] as support.

The "classification test" , of 1.105-11©(2)(ii), that you refer to...only applies if the plan does not pass the "percentage test" of 1.105-11©(2)(i). In other words, a plan will pass the ELIGIBILITY TEST if it complies with either the "percentage test" or "the classification test".

In my initial post I said that the plan passes the 70% percentage test. (Therefore the "classification test" is not even an issue in determining if the plan meets the ELIGIBILITY TEST of IRC 105).

Kirk uses Treas Reg 1.105-11©(3)(ii) to support his belief that there is discrimination as to benefits (in the factual situation I presented in my initial post) .... However, 1.105-11©(3)(ii) only applies to participants. An employee that has not met the 12 month service requirement (in my situation) is not yet a participant and therefore can't be discriminated aganist as to benefits.

Thanks for both of your help ..... But I'm still looking for the answer.

[jpod]

I don't know if there is any IRS or court interpretation backing this up, but perhaps the answer is that neither the 70% test nor the classification test is a "safe harbor;" satisfaction of one of the tests is merely the first step on the road to satisfaction of the rule requiring nondiscrimination in eligibility.

If you look at the statute itself, it says in Section 105(h)(2)(A) that a plan must not discriminate in favor of HCEs as to eligibility to participate. It then goes on to say in 105(h)(3)(A) that a plan does not satisfy the nondiscriminatory eligibilty requirement "unless . . ." the plan satisfies either the 70% test or the classification test. The statute does NOT say that a plan "will" satisfy the nondiscriminatory eligiblity requirement if it passes either test. This leaves room for the IRS to argue that a plan that satisfies one or both tests must still be "nondiscriminatory" as to eligility in other respects (i.e., back to the "smell" test).

I realize that this is somewhat of a stretch, but I do not see anything in the regulation under Section 105(h) that contradicts this interpretation.

[Moe Howard]

jpod: I agree. Your conclusion makes perfect sense.

IRC 105(h)(2)(A) says it all (short, simple, & basic).

The word "unless" that you point out in Treas Reg 1.105-11©,

along with your overall interpretation is right on the mark.

It really has nothing to do with any smell test. The proof is right there in IRC 105(h)(2)(A) .... Re: discrimination "A plan cannot discriminate in favor of highly compensated individuals as to eligibility to participate" PERIOD.

[mroberts]

The question then must be asked is what is considered discriminatory when comparing different eligibility periods for different classes? What if the HCE's probationary period was 1 month and all other employees were 6 months? 3 months? 2 months? I agree that 1 month versus 12 months does seem discriminatory, but is there anything else in the regs that would help clarify this?

[Moe Howard]

mroberts: The tax code does not define "discriminatory", therefore the courts would use Webster's definition.

I would say that if the plan even shows "1-day" of favoritism to the highly comps, then the plan discriminates as to eligibility.

IRC 105(h)(2)(A) means just what it says.

[GBurns]

Moe..

Where is it stated that " a plan will pass the ELIGIBILITY TEST if it complies with either the "percentage test" or "the classification test"."?

1.105-11©(1) state "unless the plan satisfies subparagraphs (2) and (3).

There is no "or" that I can find. Without an "or" means that both apply.

[mroberts]

I don't agree that even one day would be considered discriminatory. I believe an employer has every right to set up different probationary periods for different classes. Therefore, if all the HCEs fall under the classification of executives, they should be able to have a different probationary period than say salaries employees or hourly employees. Anyone else have any thoughts on this?

[Moe Howard]

GBurns: 1.105-11©(2) "Eligibility to Participate", is a subparagraph of 1.105-11©. There are two tests under 1.105-11©(2) ...... one is the percentage test [1.105-11©(2)(i)] and the other is the classification test [1.105-11©(2)(ii)].

Test (i) states that the requirements of 1.105-11©(2) will be satisfied if (i) [the percentage test] is met.

Test (ii) states that the requirements of 1.105-11©(2) will be satisfied if (ii) [the classification test] is met.

(i) and (ii) are independent of one another.

[papogi]

I have been reading and grinding and reading and grinding this one for awhile! 105(h)(6) and 1.105-11(B)(1), even better, state that a self-insured medical reimbursement plan is an employer plan set up for the benefit of employees and reimburses medical expenses not paid through accident and health insurance. If a plan is classified as a self-insured medical reimbursement account, it must satisfy non-discrimination rules in 105(h) AND in 1.105-11, as stated in 1.105-11(a). To pass the rules in 1.105-11, a plan must satisfy both subparagraphs (2) and (3) in 1.105-11©. Subparagraph (2), Eligibility/Percentage, basically states in (i) that 70% of ALL employees must benefit from the plan (like 105(h)). It goes on to state in (ii), Eligibility/Classification that highly compensated individuals must not be favored in the plan with regards to any classifications. It also says that facts and circumstances will be used to determine this, but that, generally, the standards in 410(B)(1)(B) will be used. The rules in IRC 410 state that a plan must benefit a percentage of non-HCE’s which is at least 70% of the percentage of HCE’s benefiting under the plan. This means that if 100% of the HCE’s benefit from the plan, then at least 70% of the non-HCE’s must also benefit from the plan. As long as any classifications are normal business classifications and do not make the plan fail this test, then the classification is OK. Moe Howard, I understand your statement that (i) and (ii) are independent tests.

105(h) says that a self-insured medical reimbursement plan cannot discriminate in favor of HCE’s with regard to eligibility, with no specifics or standards. What if your classifications were clerical and non-clerical, rather than HCE’s and non-HCE’s? There does not seem to be anything in 105(h) or 1.105-11 that says this cannot be done. Classifications and different eligibility probationary periods seem to be allowed under self-insured medical reimbursement plans as long as HCE’s are not favored, as defined in 105(h) and 1.105-11. What if your classifications were clerical and administrative (mroberts kind of alluded to this) and clericals have to wait 6 months, while administratives are on immediately? Are HCE’s being favored? How do you know? There are no clear lines between HCE’s and non-HCE’s. You have to apply the quantitative rules in 105(h) and 1.105-11 to get the answer. The line in 105(h) that simply says that HCE’s cannot be favored is too vague and of no help. You cannot just use that sentence at face value. Under this plan design, HCE’s may or may not be favored with regard to eligibility. You would have to run the numbers.

Even though Moe Howard’s post says that this employer classifies employees by HCE’s and non-HCE’s, you still have to run the numbers to determine if the HCE’s are truly being favored with regard to eligibility under the standards to be used for self-insured medical reimbursement plans. They may indeed be favored, but they may not be. Even with classifications as obvious as HCE’s and non-HCE’s, the HCE’s still may not be favored based on the formulas in 105(h) and 1.105-11. If an employer imposes different probationary periods but can still pass these tests at any point during the plan year, the plan is safe. Incidentally, all of the IRS examples in 1.105-11 address the requirement of eligibility with regards to 1.105-11©(2) only. It makes no mention of the supposed “blanket statement” in 105(h).

[Moe Howard]

papogi: You bring up some good points ..... But I still feel that the above post by "jpod" is exactly right.

[GBurns]

Moe ...

The question still is.. Where does it say that only 1 test must be met? Where is there an "or" that shows that only one or the other must be met and not both as in "and"?

[Guest Illini]

Look at PLRs 8336065 and 8411050. They say that arrangements in which HCEs can participate earlier than NHCEs fail the benefits test.

[mbozek]

Moe: See IRC 105(H)(4): a plan discriminates as to benefits unless benefits provided to HCE are provided for all other participants. This provision requires that benefits for non HCEs be provided on the same terms as HCEs. Requiring a waiting period for some participants but not others does not satisfy the requirement that benefits being available to all participants. See PLR 8411050, 8336065. Similarily a 11 month disparity in waiting period for benefits for nonhces does not satisify 105(h)(4). If equla service was not required for both HCEs and non HCEs then the plan could be designed to avoid providing meaningful benefits to non HCEs simply by requiring extended service before becoming eligible for benefits.

[EGB]

A little twist - what if you charge higher premiums to the NHCEs than the HCEs? Actually, the premium amounts would be based on job classifications (eg, executives, management . . . ) and higher premiums would be charged as you go down the line; but, all are eligible and the benefits of coverage are the same. Though this smells a little bad, I think it is ok. Any thoughts?