Self Funded Section 105 Discrimination Testing

[Guest AHayhow]

How can we determine if an employer passes the Benefits Test for a self-insured medical plan that provides different benefit levels based on bona fide business classifications of employees. This specific employer offers a self-insured plan that provides a $1 million life-time max for exempt employees and a $100,000 annual max for non-exempt employees (with no lifetime limit). Obviously, the benefits are different between the two groups, and the exempt group includes all of the HCEs. However, the non-exempt group has a higher lifetime max than the exempt. Any feedback on whether that would pass the Benefits Test under section 105? Thanks

[Ron Snyder]

Run the nondiscrimination tests set forth in Regs. 1.105-11©.

[Guest AMP]

I don't think you can pass the nondiscriminatory benefits requirement of Code Section 105(h). The nondiscriminatory benefits requirement is pretty simple - all benefits provided for participants who are highly compensated employees (under the Section 105(h) definition - which includes the top 25% of employees ranked by compensation) MUST be provided for ALL other participants. Any maximum limit in the plan must be the uniform for all participants.

In practice, this means that any benefit provided to ANY highly compensated employee must be provided to ALL non-highly compensated employees in the same plan. The annual limit applicable only to non-exempts violates the nondiscriminatory benefit requirement, because it does not apply to all highly compensated employees. There's nothing in Code Section 105(h) that allows you to "offset" the annual limit for non-exempts with the absence of a lifetime limit.

But if your group of exempt employees has enough non-highly compensated employees so that the group passes the nondiscriminatory classification test, you can treat each benefit structure as a separate plan. The separate plans would each satisfy the Code Section 105(h) nondiscriminatory benefit requirement.

Your other alternative is to just let the plan design remain discriminatory and treat any benefits in excess of $100,000 provided to any highly compensated employee in any year as taxable compensation to the highly compensated employee (with or without a tax gross-up). This might not be an issue in many years. The presence of a discriminatory benefit provision in the plan doesn't affect the nontaxable status of benefits provided to non-highly compensated employees, and only affects a highly compensated employee when and if the HCE actually receive benefits in excess of $100,000 in any year.

[E as in ERISA]

I don't know if you can purchase this insurance. But maybe you can self insure up to $100,000 and then get policies with a "deductible" of $100,000" that insure up to $1,000,000 for non-exempt employees. You wouldn't have to perform discrim testing on the insured benefits. Are there companies that provide those policies?

[Ron Snyder]

AMP refers to a correct principle: the reason for running the nondiscrimination tests is to ascertain the amounts that need to be included on the W-2s of Key Employees if they receive excess benefits.