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IRS Provides Transition Relief from Staggering $36,500 per Employee Healthcare Penalty.

(Parker Tax Publishing March 3, 2015)

The IRS has provided transition relief though at least 6/30/2015 from the assessment of penalties under Code Sec. 4980D for small employers who reimburse or pay a premium for individual health insurance for an employee. The IRS also stated that such penalties will not be assessed any earlier than 2016 against S corporations that have similar arrangements with 2-percent shareholder-employees (and then only if future guidance holds that the penalty applies in those situations). Notice 2015-17.


Historically, many small employers have favored "employee payment plans" where employees would choose their own insurance plans and employers would reimburse the costs over conventional group health plans. Structured properly, such arrangements provided many of the tax benefits of group health plans without the administrative burdens and high costs.

In order to bring about the larger goals of complete health care reform, the Affordable Care Act (ACA) added Code Sec. 4980D, which applies a penalty to group health plans that fail to meet certain market reform requirements under the ACA. These market reforms require group health plans to provide certain preventative services without imposing any cost-sharing requirements, and may not establish an annual limit of benefits.

Pursuant to Notice 2013-54, the "employee payment plans" discussed above are considered to be group health plans that fail to meet these market reforms. As such, employers who reimburse the health insurance premiums of their employees are subject to a $100 per day, per employee penalty under Code Sec. 4980D (reaching up to $36,500 per employee, per year).

For purposes of the notice, an employer payment plan, as described in Notice 2013-54, refers to a group health plan under which an employer reimburses an employee for some or all of the premium expenses incurred for an individual health insurance policy or directly pays a premium for an individual health insurance policy covering the employee, such as arrangements described in Rev. Rul. 61-146.

Transition Relief for Small Employers from the Code Sec. 4980D Excise Tax

In general, if an employer offered coverage through an employer payment plan, the employer will owe an excise tax under Code Sec. 4980D. However, Notice 2015-17 provides limited transition relief for coverage sponsored by an employer that is not an Applicable Large Employer (ALE). The IRS notes that some employers that had been offering health coverage through an employer payment plan may need additional time to obtain group health coverage or adopt a suitable alternative.

Notice 2015-17 provides that the excise tax under Code Sec. 4980D will not be asserted for any failure to satisfy the market reforms by employer payment plans that pay, or reimburse employees for individual health policy premiums or Medicare Part B or Part D premiums (1) for 2014 for employers that are not ALEs for 2014, and (2) for January 1 through June 30, 2015 for employers that are not ALEs for 2015. After June 30, 2015, such employers may be liable for the excise tax.

Additionally, employers eligible for this relief that have employer payment plans are not required to file IRS Form 8928 solely as a result of having such arrangements.

The relief from the Code Sec. 4980D penalty provided by Notice 2015-17 only applies to programs that reimburse premiums. It does not extend to stand-alone HRAs or other arrangements to reimburse employees for medical expenses other than insurance premiums.

Treatment of S Corporation Healthcare Arrangements for 2-percent Shareholder-Employees

Notice 2008-1 provides that if an S corporation pays for or reimburses premiums for individual health insurance coverage covering a 2-percent shareholder (as defined in Code Sec. 1372(b)(2)), the payment or reimbursement is included in income, but the 2-percent shareholder-employee may deduct the amount of the premiums under Code Sec. 162(l) (a "2-percent shareholder-employee healthcare arrangement"). Currently, it is unclear whether such 2-percent shareholder-employee healthcare arrangements are subject to the market reforms (and the associated penalties under Code Sec. 4980D).

To address this lack of clarity, the IRS is contemplating publication of additional guidance on the application of the market reforms to a 2-percent shareholder-employee healthcare arrangement.

Until such guidance is issued, and for at least through the end of 2015, the excise tax under Code Sec. 4980D will not be asserted for any failure to satisfy the market reforms by a 2-percent shareholder-employee healthcare arrangement. Further, unless and until additional guidance provides otherwise, an S corporation with a 2-percent shareholder-employee healthcare arrangement will not be required to file IRS Form 8928 solely as a result of having a 2-percent shareholder-employee healthcare arrangement.

The IRS is also considering whether additional guidance is needed on the federal tax treatment of 2-percent shareholder-employee healthcare arrangements. However, unless and until additional guidance provides otherwise, the IRS notes that taxpayers may continue to rely on Notice 2008-1 with regard to the tax treatment of the described arrangements.

Single Participant S Corporation Healthcare Arrangements

In addition, the IRS reiterated that Code Sec. 9831(a)(2) provides that the market reforms do not apply to a group health plan that has fewer than two participants. Accordingly, arrangements covering only a single employee are generally not subject to the market reforms. However, if an S corporation maintains more than one such arrangement for different employees (whether or not 2-percent shareholder-employees), all such arrangements are treated as a single arrangement covering more than one employee so that the exception in Code Sec. 9831(a)(2) does not apply.

For this purpose, if both a non-2-percent shareholder employee of the S corporation and a 2-percent shareholder employee of the S corporation are receiving reimbursements for individual premiums, the arrangement would be considered a group health plan for more than one current employee. However, if an employee is covered under a reimbursement arrangement with other-than-self-only coverage (such as family coverage) and another employee is covered by that same coverage as a spouse or dependent of the first employee, the arrangement would be considered to cover only the one employee.

Employee Compensation and Tax Treatment of Employer Payment Plans

Notice 2015-17 clarifies that the holding in Rev. Rul. 61-146 continues to apply, meaning that only payments under arrangements meeting the conditions in Rev. Rul. 61-146 are excludable from the employee's gross income under Code Sec. 106. Rev. Rul. 61-146 holds that under certain conditions, if an employer reimburses an employee's substantiated premiums for non-employer sponsored hospital and medical insurance, the payments are excluded from the employee's gross income under Code Sec. 106. This exclusion also applies if the employer pays the premiums directly to the insurance company.

As explained in Notice 2013-54, an arrangement under which an employer provides reimbursements or payments that are dedicated to providing medical care, such as cash reimbursements for the purchase of an individual market policy, is itself a group health plan. Accordingly, arrangements like those described in Rev. Rul. 61-146 are group health plans subject to the market reform provisions of the Affordable Care Act without regard to whether the employer treats the money as pre-tax or post-tax to the employee. This means employers with arrangements like those in Rev. Rul. 61-146 cannot get around the market reform provisions by providing reimbursements on an after-tax basis, and will be treated as providing a group health plan if they do so.

However, Notice 2015-17 clarifies that if, instead of providing reimbursements, an employer increases an employee's compensation, but does not condition the payment of the additional compensation on the purchase of health coverage (or otherwise endorses a particular policy, form, or issuer of health insurance), that arrangement is not an employer payment plan and will not be subject to the market reforms. Additionally, providing employees with information about the Marketplace or the premium tax credit under Code Sec. 36B is not endorsement of a particular policy, form, or issuer of health insurance.

In addition to the transition relief provided to small employers and 2-percent shareholder-employees, Notice 2015-17 contains guidance related to the integration of a Medicare reimbursement arrangement or TRICARE-related HRAs with a group health plan. In brief, because neither Medicare coverage nor TRICARE are group health plans, they may not be integrated with employer payment plans and HRAs (respectively) in order to satisfy the market reforms except in limited circumstances.

For a discussion of group health plan requirements, including the Code Sec. 4980D excise tax, see Parker Tax ¶ 195,500. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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