Employee Benefits & Executive Compensation Blog

The View from Proskauer on Developments in the World of Employee Benefits, Executive Compensation & ERISA Litigation

ACA Employer Mandate Assessments Coming

Within the past few weeks, IRS officials have informally indicated that the IRS would begin assessing tax penalties under the Affordable Care Act’s (ACA) employer shared responsibility. The IRS has now updated its Questions and Answers on Employer Shared Responsibility Provisions under the Affordable Care Act (see Q&As 55-58) and has issued a form preliminary tax notification letter (Letter 226J).  The first round of letters is expected before the end of the year and will relate to the 2015 tax year.  Background information and steps employers should take if they receive Letter 226J are provided below.


A key component of the ACA is the employer shared responsibility mandate, which requires applicable large employers (generally those with 50 or more full-time employees and equivalents, determined on a controlled group basis) (“ALEs”) to offer minimum essential coverage (MEC) to 95% of their full-time employees.  This coverage must also be affordable, based on various affordability safe harbors, and have minimum value.  For plan years beginning in 2015, ALEs with 50-99 full-time employees were exempt from the requirement to offer MEC to 95% of their full-time employees, but the MEC offered to full-time employees still had to be affordable and have minimum value.  ALEs with 100 or more full-time employees would be deemed to satisfy the employer shared responsibility mandate in 2015 if MEC was offered to 70% of their full-time employees, and that coverage was affordable and had minimum value.  All ALEs became subject to the full 95% threshold in plan years beginning in 2016.

Over the past few years, ALEs and other coverage providers have been required to submit information reporting forms to give the IRS the information necessary to determine compliance with the individual and employer shared responsibility mandates.  ALEs generally file Forms 1094-C and 1095-C containing information regarding offers of MEC, including whether that MEC was affordable and had minimum value.

Penalties for failure to satisfy the employer shared responsibility mandate can be severe.  Under Internal Revenue Code Section 4980H(a), an ALE that fails to offer coverage to 95% of its full-time employees could be assessed a penalty equal to $166.67 (for 2014 and later indexed for inflation, as described below) per full-time employee (less 30 full-time employees) per month if any full-time employee obtains coverage on the Marketplace and receives a premium credit.  Under Internal Revenue Code (“Code”) Section 4980H(b), an ALE that fails to offer affordable coverage or coverage that has minimum value to any full-time employee could be assessed a penalty equal to $250 (for 2014 and later indexed for inflation, as described below) per month for any full-time employee that obtains coverage on the Marketplace and receives a premium credit.  The penalty amounts under the employer shared responsibility mandates are indexed for inflation:

Year 4980H(a) 4980H(b)
2014 (non-enforcement year) $166.67/month $250/month
2015 (transition relief) $173.33/month $260/month
2016 $180/month $270/month
2017 $188.33/month $280/month
2018 $193.33/month $290/month

Preliminary Penalty Notice

Based on statements from the IRS, notices of preliminary penalty determinations will be sent before the end of 2017.  ALEs who could be assessed a penalty will receive a Letter 226J which will include general information regarding the employer shared responsibility mandate and assessable penalties, a tabular summary of the penalties being assessed (shown on a monthly basis), an employee list showing each full-time employee triggering a penalty and the Form 1095-C indicator codes attributable to that employee,  an employer response form (Form 14764, which as of the date of this blog entry, has not been released), and a description of steps to take if the employer disagrees with the IRS.

An employer will respond using Form 14764 to either agree or disagree with the proposed penalty amount. If an employer indicates its disagreement, the IRS will respond with a Letter 227 (not yet released) describing further actions the employer must take.  The Letter 227 will likely explain that an employer must follow the steps set forth in Publication 5 and may request a pre-assessment conference within 30 days of the employer’s receipt of the Letter 227.  If an employer fails to respond to either Letter 226J or Letter 227, the IRS will formally assess the penalty and issue a notice of demand for payment (Notice CP 220J).

Employer Steps if Penalty Notice Received

Given the severity of penalties that could be assessed under the employer shared responsibility mandate, employers take action immediately upon receiving a Letter 226J.  Below are recommended steps to take upon being assessed a penalty:

  1. Utilize counsel experienced with the ACA’s employer shared responsibility mandate.
  2. Compile the Form 1095-Cs for each assessable full-time employee listed by the IRS in Letter 226J.
  3. Closely compare the information contained in Letter 226J with the Form 1095-Cs for each assessable full-time employee.
  4. Review other relevant payroll and benefit enrollment as necessary to determine whether each assessable full-time employee listed by the IRS was, in fact, full-time and did not actually receive an offer or MEC or the MEC offered was not affordable or did not have minimum value.
  5. Work with counsel to determine how to respond to the IRS. If the employer disagrees with the assessment, Form 14764 should be submitted explaining the disagreement. Once Letter 227 is received by the employer, a pre-assessment conference should be scheduled to formally appeal the potential assessment.
  6. Prepare all relevant materials and supporting documentation in advance of the pre-assessment conference.
  7. Attend the pre-assessment conference with counsel and await the IRS’s determination.

Because transition relief during the 2015 plan year exempted employers with less than 100 full-time employees from the penalty in Code Section 4980H(a) and reduced the penalty threshold to 70% for larger employers, we anticipate that assessments this year will primarily be based on the smaller, individualized penalty set forth in Code Section 4980(b).

Ninth Circuit Considers Pre-Appeal Conduct in Plan’s Request for Appellate Attorney’s Fees

The Ninth Circuit ruled that a district court erred by failing to consider the entire course of the litigation when analyzing a request for attorney’s fees under ERISA and remanded the case for a calculation of fees. A plan participant filed suit against a plan and insurer seeking disability benefits. The plan, in turn, filed a cross-claim against the insurer seeking reimbursement of costs it would be required to expend in the lawsuit. The plan ultimately received an award for attorneys’ fees from the insurer in connection with the plan’s work in the case. The insurer appealed the award of attorney’s fees and lost. The plan then sought to recover its attorney’s fees associated with the appeal. The Ninth Circuit concluded that the insurer’s actions in the underlying benefits claim litigation were relevant to a determination of whether to award attorney’s fees to the plan in connection with the appeal, and held that the district court erred when it failed to consider them. The case is Micha v. Sun Life Assurance of Canada, Inc., No. 16-55053, 2017 WL 4896481 (9th Cir. Oct. 31, 2017).

District Court Applies Texas Ban on Discretionary Clauses in Insurance Contracts

A federal district court in Louisiana upheld a Texas state law prohibiting insurers from granting themselves discretion to interpret benefit plans when deciding benefit claims. These so-called “discretionary clauses” are routinely found in plans governed by ERISA and generally result in courts deferring to the plan administrator’s decisions.  As a practical matter, the current ruling means that, at least in this court’s view, an insurer’s denial of a claim for benefits may receive a higher level of judicial scrutiny than the abuse of discretion standard it would have received if discretionary clauses were permitted and the plan contained such a clause. The court held that the Commissioner of Insurance had broad authority to adopt rules governing insurers and did not exceed his statutory authority in enacting the regulations at issue. The case is Jacob v. Unum Life Insurance Company, No. 16-17666, 2017 WL 4764357 (E.D. La.).


Tax Reform Contemplates Changes to Employee Benefits

The House Committee on Ways and Means publicly released a working draft of the Tax Cuts and Jobs Act for the first time on Thursday. In the weeks leading up to the release of the draft, speculation has swirled as to whether it would eliminate or otherwise limit the ability to make pre-tax employee deferrals into 401(k) plans.  The current draft of the bill would not impact 401(k) deferrals, but would bring other changes to employee benefit plans and programs beginning in 2018, as described below.  However, the bill is still a working draft and has not yet become law.  The bill would also make significant changes with respect to executive compensation, which we will address in a separate blog post.

Elimination of Certain Income Tax Exclusions

The bill would eliminate the income tax exclusions currently available for the following types of benefits:

  1. Employer-provided dependent care assistance programs (currently tax-free up to $5,000 per year or $2,500 per year in the case of married individuals who file separate tax returns);
  2. Employer-provided adoption assistance programs (currently tax-free up to $13,570 per child);
  3. Moving expense reimbursements by employers;
  4. Tuition reimbursements provided by employers through qualified educational assistance programs (currently tax-free up to $5,250 per year); and
  5. Qualified tuition reductions provided by educational institutions to employees and their spouses and dependents (currently tax-free for undergraduate tuition and, in the case of teaching and research assistants, graduate tuition).

Employees that receive such benefits or reimbursements would therefore need to include the value of the benefits or reimbursements in their gross income for tax purposes.

Loosen Restrictions on Hardship Distributions from 401(k) Plans

The bill would eliminate two restrictions that currently apply to hardship distributions from 401(k) plans. First, IRS regulations currently require 401(k) plans to prohibit participants who receive certain hardship distributions from making plan contributions for six months after the hardship distribution.  The bill would force the IRS to eliminate this requirement.   Second, under current law, hardship distributions from 401(k) plans cannot include qualified nonelective employer contributions (QNECs), qualified matching employer contributions (QMACs), or earnings on elective deferrals.  The bill would allow employers to make such amounts available for hardship distributions.  Finally, for purposes of determining a participant’s eligibility to receive a hardship distribution, the bill would clarify that the participant is not required to take the maximum available loan available from the 401(k) plan to receive a hardship distribution.

Reduction in Minimum Age for In-Service Distributions from 457(b) Plans and Pension Plans

The bill would make in-service distributions available from 457(b) plans (deferred compensation plans available for employees of state and local governments and certain tax-exempt organizations) and tax-qualified pension plans beginning at age 59½. Under current law, in-service distributions are only available from 457(b) plans in the case of eligible hardships or the attainment of age 70½ and from tax-qualified pension plans beginning at age 62.

Extended Rollover Period for Plan Loan Offset Amounts

The bill would provide certain defined contribution plan participants with more time to roll over “plan loan offset amounts” to individual retirement account (IRA) or other eligible retirement plan. Specifically, if a participant would have a deemed distribution for failing to repay an outstanding plan loan following a termination of the plan or the participant’s employment, the participant could avoid the deemed distribution by contributing the outstanding loan balance to an IRA or other eligible retirement plan no later than the due date (with extensions) for filing the participant’s tax return for the year of the potential deemed distribution.  This change is intended to help participants avoid having their outstanding loan balances treated as deemed distributions, which are subject to taxation (and the additional 10% penalty on early withdrawals if applicable) in the year of the deemed distribution.  Currently, participants only have 60 days to do this from the date on which the participant receives a distribution of the participant’s outstanding account balance.

Modified Nondiscrimination Testing Rules for Frozen Legacy Plans

The bill would make technical changes to the nondiscrimination testing rules for tax-qualified pension plans and defined contribution plans sponsored by employers that close or freeze their pension plans for certain classes of participants (which is an increasingly common occurrence).

In particular, such pension plans will be deemed not to discriminate in favor of highly compensated employees solely due to the composition of the closed class of participants or the benefits, rights, or other features provided to the closed class if certain requirements are met, including that the plan is not discriminatory in the year of the plan closure and the following two plan years. Such pension plans could also be aggregated with certain defined contribution plans on a benefits basis for nondiscrimination testing and minimum coverage testing.  For this purpose, testing could include the portion of the defined contribution plan(s) that provides matching contributions, 403(b) annuity contracts purchased with matching contributions or nonelective contributions, or that consists of an employee stock ownership plan.

The bill would also make similar changes with respect to nondiscrimination and minimum coverage testing for defined contribution plans that provide “make-whole” nonelective employer contributions that are intended to replace some or all of the retirement benefits a participant would have otherwise earned under a pension plan or other qualified cash or deferred arrangement if the change had not been made.

Additional Limitations on Archer Medical Savings Accounts (Archer MSAs)

The bill would limit the continued use of Archer MSAs by eliminating the deduction for employee contributions to Archer MSAs and the income tax exclusion for employer contributions to Archer MSAs. However, individuals could continue to roll over their Archer MSAs to HSAs on a tax-free basis.  This change is expected to have a limited impact because Archer MSAs have largely been replaced by health savings accounts (HSAs) and new Archer MSAs could not be established after 2007 (although individuals who already had Archer MSAs are currently allowed to continue contributions to their Archer MSAs).

As noted above, the bill is still a working draft and has not become law. The Administration has indicated that it hopes to complete tax reform by the end of 2017, but it is too early to tell whether that will happen.  In any event, we expect additional modifications to the bill as it is further reviewed by the House and introduced in the Senate.

For a summary of the other significant changes proposed in the bill, please see our Tax Talks blog post.

No Standing To Pursue Fiduciary-Breach Claim Where Plan Became Overfunded During Litigation

The Eighth Circuit held that defined benefit pension plan participants who alleged breach of fiduciary duty and prohibited transaction claims under ERISA lacked standing to assert their claims because, during the course of the litigation, the plan became overfunded. Plaintiffs brought suit after the plan lost $1.1 billion, which plaintiffs claimed arose from imprudent investments and caused the plan to go from being significantly overfunded to being 84% funded. During the course of the litigation, the plan recovered from the losses and returned to an overfunded status.  Defendants moved to dismiss on the ground that plaintiffs had suffered no harm. The Eighth Circuit agreed and held that “when a plan is overfunded, a participant in a defined benefit plan no longer falls within the class of plaintiffs authorized under [ERISA] to bring suit claiming liability . . . for alleged breaches of fiduciary duties.” The case is Thole v. U.S. Bank, Nat’l Ass’n, No. 16-1928, 2017 WL 4544953 (8th Cir. Oct. 12, 2017).

ERISA’s Six-Year Statute of Repose for Fiduciary-Breach Claims Can Be Tolled

The Eleventh Circuit ruled that ERISA’s six-year statute of repose can be tolled by the parties even though it is a statute of repose. During pre-litigation negotiations between the U.S. Department of Labor and a trustee of an employee stock ownership plan, the parties signed a series of tolling agreements, which delayed the filing of any action in exchange for the trustee agreeing not to raise a timeliness defense if the DOL later sued. Ultimately, the negotiations failed and the DOL sued the trustee for breach of fiduciary duty and prohibited self-dealing.  The trustee moved to dismiss the complaint, arguing that the claims were untimely and that the tolling agreements were invalid because ERISA’s six-year statute of repose is jurisdictional and therefore cannot be waived. Even if not jurisdictional, the trustee argued, a statute of repose is per se immune from waiver. The Eleventh Circuit held that ERISA’s six-year statute of repose is not jurisdictional because ERISA does not contain the clear textual indication required to characterize the limitation as such. The Court also explained that, contrary to the trustee’s argument, there is well-established precedent holding that statutes of repose are subject to express waiver, particularly when the statute setting forth the limitation period does not contain a categorical rule prohibiting waiver. The case is Sec’y, United States DOL v. Preston, No. 17-10833, 2017 U.S. App. LEXIS 19926 (11th Cir. Oct. 12, 2017).

Health Care Reform Roundup – Issue 10

After months of failed attempts to pass any health care reform legislation, it appears efforts to pass a bipartisan bill to improve the Affordable Care Act (ACA) are picking up steam. Below is a summary of regent health care reform developments. Continue Reading

New PBGC-Plan Sponsor Pilot Mediation Project for Early Warning Program and Termination Liability Cases

The Pension Benefit Guaranty Corporation (the “PBGC”) launched a new Pilot Mediation Project to facilitate negotiations with (i) plan sponsors involved in corporate transactions under the purview of the PBGC’s Early Warning Program and (ii) the former plan sponsors of terminated pension plans that are subject to termination liability for the plans’ unfunded benefit liabilities. Continue Reading

Department of Labor Proposes 90-Day Delay of New Disability Claims Procedures

On October 10, 2017, the Department of Labor (“DOL”) released proposed regulations that would delay for 90 days the effective date of the final disability claims procedures regulations finalized on December 19, 2016. As explained in our August 1, 2017 blog entry, the new disability claims procedures added various participant protections and rights to existing disability claims procedures. The new procedures largely track the procedures that were applied to group health plans under the Affordable Care Act.

This proposed regulatory delay comes pursuant to Executive Order 13777, which mandates agencies to evaluate existing regulations for potential repeal or modification. The DOL appears concerned with the financial effect of the final regulations, including the effect the final regulations may have on premium rates and the demand for disability coverage. The DOL also appears interested in comments on the litigation and administrative costs inherent in the final regulations’ deemed exhaustion and enhanced disclosure rules.

If the proposed regulatory delay is finalized, the new disability claims procedures provided under the final regulations would apply only for disability benefit claims filed on or after April 1, 2018. The DOL explained that it would use this time to invite the public to submit further comments and data regarding the final regulations while it further analyzes the financial effects of the new procedures and potential regulatory alternatives. The DOL noted that after its analysis it may allow the final regulations to take effect as written, propose a further extension, amend the regulations, or withdraw the regulations entirely. Comments on the proposed delay must be submitted to the DOL by October 27, 2017. If the proposed delay is finalized, any comments on the final regulations must be submitted to the DOL by December 11, 2017.

Although it appears likely that the 90-day delay will be finalized, employers and plan administrators that are currently working to implement the new claims procedures for claims submitted after January 1, 2018 should continue to do so.

Looking Ahead to the 2018 Proxy Season: Preparing for CEO Pay Ratio Rules Disclosure Requirements

Pay ratio disclosure rules requiring public companies to disclose the ratio between the annual total compensation of the median employee and the company’s principal executive officer are effective for fiscal years beginning on or after January 1, 2017.  Accordingly, most public companies will need to comply with the rules beginning with the 2018 proxy season.

Please visit the Proskauer Tax Talks Blog to read more about the pay ratio rules generally and additional interpretive guidance issued by the SEC last week.