March 21, 2018
As a result of the strong economy and the Tax Cuts and Jobs Act of 2017, many employers are considering ways to enhance their benefits packages. Some employers have already increased employer contributions towards the health coverage offered to their employees and others have increased their 401(k) matching contributions. Another potential option for employers is to add an opt-out payment for those who waive health coverage.
In this article, when we talk about opt-out payments, we mean one that:
- Is available only if the employee declines or waives coverage under an employer-sponsored health plan; and,
- Cannot be used to pay for coverage under the employer-sponsored health plan.
An example of an opt-out payment is where ABC Corp offers their full-time employees medical coverage at a cost of $100 per month for individual coverage. They also offer a $50 per month opt-out payment to full-time employees who decline or waive coverage under the ABC Corp plan. Under this arrangement, employees can pay $100 per month to take the coverage or receive $50 if they decline or waive.
Employer contributions to a flex credit plan are not treated as an opt-out payment, even if employees waiving health coverage may elect to receive the credit as taxable cash compensation. Employer flex credits are subject to a related, but different, set of rules and require their own special analysis.
Here are several important considerations when determining if an opt-out payment is right for your benefits strategy.
Limited Affordability Exception. The IRS generally requires that cash opt-out payments be treated like an employee contribution for purposes of determining if the plan is affordable under the Affordable Care Act. This applies to any employers subject to the ACA employer mandate. However, plans can avoid this if the employer only pays opt-out funds if certain conditions (a.k.a., the Limited Exception) are met. The requirements include:
- The employee declines employer-sponsored major medical coverage.
- The employee provides reasonable evidence that they and their expected tax dependents have, or will have during the plan year, other alternative, minimum essential coverage that is not individual market coverage.
- Medicare Part A, TRICARE, Medicaid, CHIP, and other employer-sponsored coverage are considered “acceptable alternative coverage.” (NOTE: Medicare and TRICARE mandate that many employers cannot incentivize workers who are eligible for those programs to drop active health coverage. Those rules should never be overlooked.)
- An employee’s attestation/affidavit is reasonable evidence by itself, unless the employer knows or has reason to know that the attestation/affidavit is wrong. An employer can also request other evidence.
- Evidence/attestation of alternative coverage must be provided every plan year for which the eligible opt-out arrangement applies.
- Evidence/attestation must be obtained at a reasonable time before the coverage period begins (e.g., during open enrollment) or after the plan year starts.
- Employers may continue to exclude from affordability calculations opt-out payments for the entire plan year if the evidence/attestation was obtained at the beginning of the plan year – even if the employee or family members drop the alternative coverage mid-year.
These requirements potentially limit the amount that employers can use as part of an opt-out strategy. This was done purposely by design so that employers couldn’t use these payments to “push” employees to obtain individual coverage, while also satisfying their obligations under the ACA employer mandate.
In our earlier example, if ABC Corp’s opt-out program didn’t qualify for the limited exception, its lowest cost coverage would cost $150 per month (the $100 cost of coverage, plus the $50 the employee forgoes by enrolling in coverage) for ACA affordability purposes. Note also that the above rules are currently proposed regulations. While employers can rely on them, the IRS could modify them if and when final rules are released.
Overall Opt-Out Program Goals. Sometimes the primary goal of these opt-out programs is to simply provide some type of compensation to those who waive coverage. Employers with this frame of mind often focus on the facts that (a) an opt-out payment costs less than covering an employee on the health plan, and (b) employees who enroll in coverage receive greater total rewards than those who waive, and the opt-out payment levels the playing field. Other times, the goal is to influence employees to waive the employer plan. The theory is that perhaps some who are influenced to waive based on the opt-out may incur claims which negatively impact plan performance.
Both of these can be worthwhile goals, however employers looking to influence employees to waive the employer plan should consider whether they may just be rewarding employees who would already waive coverage anyway. Alternatively, the opt-out may encourage healthy individuals to drop coverage, leaving the employer with a pool of employees who will incur higher-dollar claims. This is more likely starting next year with the elimination of the individual mandate penalty, since there will no longer be a tax for not having coverage. In evaluating an opt-out, the employer may want to look at the percentage of employees offered coverage who are currently enrolled, the number of spouses currently enrolled, whether spouses work and are offered coverage (which may be difficult to determine), current plan rates and levels of coverage.
If an employer has low enrollment then an opt-out may simply be rewarding those who would waive coverage anyway. Likewise, if a large number of employees don’t have a spouse enrolled in the plan, or if the spouse does not have access to coverage elsewhere, employees may not have another option for coverage that qualifies under the Limited Exception. Finally, even if the employee has a working spouse who is offered employer coverage, the opt out may not have much effect if the plan rates or level of coverage is more favorable than the spouse’s plan. There’s no one size fits all approach, but employers would be well served to consider their overall goals of an opt-out program.
As with many plan design considerations there are potential pitfalls. For example, employers are generally prohibited from offering Medicare-eligible individuals financial or other benefits as incentives not to enroll in, or to terminate enrollment in, a group health plan. If the employer offered an opt-out only to employees who were 65 and older, and thus theoretically Medicare eligible, it could conflict with these rules and expose the employer to significant penalties.
Similarly, employers are prohibited under the HIPAA rules from discriminating against plan participants based on health conditions. An opt-out that was offered only to employees with chronic conditions such as diabetes or rheumatoid arthritis could be construed as discrimination on the basis of a health condition.
Additionally, an employee who chooses to opt out may unexpectedly incur a large medical expense during the year and have no other coverage. Plans do not typically allow employees to enroll at that point simply because they have a medical expense. This could create additional adverse effects on the employee’s ability to work (such as a longer, more difficult recovery and additional financial stress). This issue should be clearly communicated since employees may or may not understand this risk.
Opt-outs may also be a better culture fit with some employers rather than others. For example, an employer who is focused on offering market leading benefits may want employees to enroll in their benefits and an opt-out may conflict with this goal. The employer may find instead that the cost of the opt-out better allocated towards enhancing benefits. Likewise, an employer looking to more closely manage costs while maintaining benchmark level benefits may see significant value in adding an opt-out payment.
Takeaways. Opt-out payments can be a useful way for employers to enhance their benefits offerings for those who don’t enroll in employer benefits. Before pursuing this strategy employers should become familiar with the rules and also consider their overall goals and motivation behind implementing an opt-out. Finally employers should consider the potential pitfalls and how the opt-out fits in with their overall benefits strategy.
NOTICE OF DISCLAIMER
The information herein is intended to be educational only and is based on information that is generally available. HUB International makes no representation or warranty as to its accuracy and is not obligated to update the information should it change in the future. The information is not intended to be legal or tax advice. Consult your attorney and/or professional advisor as to your organization’s specific circumstances and legal, tax or other requirements.