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Benefits Law Advisor

Employers – Are You Ready to Report Offers of Health Insurance?

As you may already know, generally, each “applicable large employer” (see our article Health Care Reform: Employers Should Prepare Now for 2015 to Avoid Penalties to determine if you are an applicable large employer) is required to file information returns with the IRS (Form 1094-C) and provide statements to its employees (Form 1095-C) about the health insurance offered by the employer. In connection with these requirements, the IRS previously published detailed instructions regarding how to complete Forms 1094-C and 1095-C (see our article What’s Next for the Affordable Care Act…Information Reporting for background information regarding these reporting requirements). In an effort to assist employers in completing these forms and to provide additional guidance, the IRS released more detailed reporting information this week in the form of Questions and Answers. The IRS also provided additional information regarding basic Affordable Care Act reporting requirements.

These materials clarified that employers are not required to complete Form 1095-C for any employee who is a part-time employee for the entire calendar year. However, an employer that sponsors a self-insured health plan in which any employee or employee’s spouse or dependent has enrolled is required to file Form 1094-C and Form 1095-C, whether or not that employer has any full-time employees and whether or not that individual is a current employee or a full-time employee. The Questions and Answers also provide much needed guidance regarding how Form 1095-C should be completed for a full-time employee who terminates employment or experiences a reduction in hours and receives an offer of COBRA continuation coverage.

In preparation for reporting on Form 1094-C and 1095-C in early 2016, applicable large employers should be thinking about the following issues, among other things:

  1. Has the employer identified all members of its controlled group? The employer will need to report this information on Line 21 of the Form 1094-C.
  2. Does the employer have a recordkeeping system in place that will let the employer easily access the data needed to complete these Forms?
  3. If the employer contributes to a multiemployer plan on behalf of some or all of its employees, has it coordinated reporting and information exchanges with the multiemployer plan administrator? An employer will likely need to do so in order to ensure complete and accurate Form 1095-C reporting.
  4. How does an employer ensure compliance with COBRA when it is using the look back method to determine full-time employee status? Where an employee changes status from full-time to part-time resulting in a qualifying event, when should the COBRA notice be provided?
  5. Does the employer have an administrative process in place to ensure that it promptly responds to exchange notices indicating that employees have claimed eligibility for exchange subsidies? Failure to timely respond to a notice could cause the employer to forego its opportunity to contest an employee claim that it did not offer affordable coverage.
  6. Employers sponsoring self-insured plans generally have to transmit to the IRS the Social Security numbers of spouses and dependents of employees covered under the plan.  Is the employer able to comply with this requirement?

Note that penalties for reporting failures will not be imposed if an employer can show that it has made good faith efforts to comply with the information reporting requirements. However, no relief is provided in the case of an employer that cannot show a good faith effort to comply with the information reporting requirements or who fails to timely file an information return or furnish a statement. Thus, employers should make good faith efforts to comply with these reporting requirements even if completing the Forms seems like an impossible task.

If they have not already, employers should start thinking about these issues now as January 2016 is fast approaching.

Tibble v. Edison International

Today, the U.S. Supreme Court announced a much-anticipated ERISA plan decision in the case of Tibble v. Edison International. ERISA practitioners and plan administrators have been watching Tibble with interest because the Supreme Court granted certiorari to consider a very broad question – namely, whether ERISA’s six-year limitations period barred imprudent investment claims where the initial investment decision was more than six years prior to suit. At only ten pages, the decision side-stepped a comprehensive discussion of numerous subsidiary questions, such as whether ERISA recognizes a “continuing violation” theory. Instead, the Court remanded the decision on the narrow ground that the Ninth Circuit had not given adequate consideration to whether fiduciaries breached a duty to monitor those investments within the six years prior to suit.


Edison International (“Edison”) is a holding company for a number of electric utilities and other energy interests, and it provided a 401(k) plan serving 20,000 employees that was valued at $3.8 billion during the litigation.[1] Under Edison’s plan, employees had a menu of possible investment options which included “institutional or commingled pools, forty mutual fund-type investments, and indirect investment in Edison stock known as a unitized fund.”[2]

The Tibble plaintiffs, on behalf of current and former 401(k) plan beneficiaries, claimed that Edison violated ERISA’s fiduciary duty of prudence by offering more expensive “retail class” shares of mutual funds, instead of relatively cheaper “institutional class” shares of the same funds.[3] The three funds challenged in the Supreme Court appeal were added in 1999 (“the 1999 funds”); but suit was not filed until 2007. Three other funds were selected in 2002 (“the 2002 funds”), but were not before the Supreme Court since they were offered less than six years before the plaintiffs’ lawsuit.

The district court held that the fiduciaries had acted imprudently by selecting the 2002 funds, noting there was no basis for selecting the more expensive retail-class shares, instead of the cheaper, virtually identical institutional shares. However, the district court found the same claims regarding the 1999 funds were barred by ERISA’s six-year limitations period.[4]

On appeal to the Ninth Circuit Court of Appeals, the plaintiffs asserted that their claims were timely so long as the 1999 funds remained in the plan. In an amicus filing, the Department of Labor (“DOL”) argued in favor of a “continuing violation” exception to the six-year period, positing that ERISA fiduciaries would otherwise have no incentive to remove imprudent investments from plan offerings.

The Ninth Circuit rejected the continuing-violation arguments, holding that the “act of the designating the investment for inclusion” triggers the limitations period absent evidence that “changed circumstances” gave rise to a new duty to conduct a “full diligence review” of existing funds.[5] The Ninth Circuit reasoned that the “changed circumstances” approach was necessary to give meaning to ERISA’s six-year limitations period, noting that a contrary view could expose fiduciaries to liability for a protracted and indefinite period.


When it granted certiorari, the Court framed the “Question Presented” broadly:

Whether a claim that ERISA plan fiduciaries breached their duty of prudence by offering higher-cost retail-class mutual funds to plan participants, even though identical lower-cost institution-class mutual funds were available, is barred by 29 U. S. C. §1113(1) when fiduciaries initially chose the higher-cost mutual funds as plan investments more than six years before the claim was filed.

In doing so, the Court did not signal whether it would address the continuing-violation theory espoused by plaintiffs, or the policy concerns underpinning the Ninth Circuit’s decision.

The Supreme Court bypassed these issues, however. Instead, it vacated the Ninth Circuit’s ruling, and remanded for additional consideration of the fiduciaries’ ongoing duty to monitor the prudence of the 1999 funds. The Court couched its decision in traditional trust law, which requires a “regular review” of trust investments. The Court also found support in the Uniform Prudent Investor Act, which the Court viewed as embracing a continuing duty to monitor plan investments.


The Supreme Court’s Tibble decision was unusually concise, and thus did not offer any express guidance to lower courts or practitioners on whether, for instance, ERISA recognizes a continuing-violation exception to a limitations defense. Given that the Court emphasized a wholly separate duty applicable to investment practices – i.e., a well-established duty to monitor investments – it does appear that the Court opted not to recognize any continuing-violation doctrine. Similarly, given the Court’s focus on the Uniform Prudent Investors Act, the application of Tibble should be limited to imprudent-investment claims, where there is a clearly established, ongoing duty to monitor, or at least those species of fiduciary claims where there is recognized duty of an ongoing nature.

Beyond that, the reach of Tibble may be fairly short because the Supreme Court expressly declined to address the scope of the fiduciary’s ongoing duties. Indeed, the Court did not provide guidance on how to evaluate those duties, except to hold that “changed circumstances” (that is, circumstances that would render an otherwise-prudent investment imprudent) was not the only scenario in which a fiduciary’s failure to re-evaluate investments might run afoul of ERISA. The Court also left open the possibility that the Ninth Circuit could deem the ongoing-duty claims waived, if it finds that they were not adequately preserved in the earlier appeal.

Nevertheless, plan administrators should keep an eye on the proceedings on remand, to see how the Ninth Circuit’s decision applies ERISA’s monitoring duty to defendants’ retention of the 1999 funds in the Edison plan. Although periodic re-evaluation of all plan investments is already a “best practice,” the decision on remand may offer guidance on particular circumstances that call for fiduciary scrutiny of specific investments.

[1] Tibble v. Edison Int’l, 711 F. 3d. 1061 (9th Cir. 2013).

[2] Id. at 1068.

[3] Id. at 1066.

[4] Tibble v. Edison Int’l, 639 F. Supp. 2d 1074, 1086 (C.D. Cal. 2009).

[5] Tibble, 711 F. 3d at 1072.

Seven Critical Tips for Employers to Minimize ERISA Fiduciary Risk

As I perform plan fiduciary governance audits, I am surprised at the continued failure of employers to take fairly simple steps that would substantially minimize employers’ fiduciary risk. Therefore, I thought it would be helpful to employers to set forth seven critical tips that employers can take to reduce potential fiduciary exposure.

Tip 1: Separate the Employer Functions from the Fiduciary Functions. Employer functions, also called settlor functions, are actions or decisions made by the employer as the employer. For example, common settlor functions are design decisions, such as establishment of a plan, the benefit formula, eligibility rules, and vesting. Settlor functions are not an exercise of fiduciary discretion and, therefore, not subject to ERISA fiduciary duties and standards. However, a fiduciary making a settlor decision may turn a non-fiduciary action into a fiduciary action. In this regard, an employer that has a committee that performs both settlor/employer functions and fiduciary functions should hold separate meetings for each function. Also do not include design or settlor functions in administrative committee minutes where the administrative committee is the fiduciary for the plan. We see this done frequently.

Tip 2: Properly Organize Your Plan’s Fiduciary Functions. Who is the plan administrator? It should not be the employer. It should generally be a committee. Have the committee members been properly appointed? Have the committee members accepted their positions and status in writing? Who is listed as the plan administrator in the summary plan description?

Tip 3: Demonstrate Fulfillment of Fiduciary Duties. This is very, very important. The court’s emphasis is on the process of fiduciary decision making, not the result. This is generally called procedural prudence. The bottom line is document, document, document. Generally, on our governance reviews we see poor and incomplete documentation. You should create detailed committee minutes that:

  • Reflect decisions and reasoning.
  • Point out discussions.
  • Set forth recommendation of investment advisors and other vendors – yes, make your investment advisors give you their recommendation. Do not let them off the hook merely because it is ultimately your decision. Document the recommendation in the committee minutes.
  • Retain documents used at meetings and meeting minutes.

Tip 4: Create a Charter for the Benefits Committee. The charter should reflect:

  • Purpose, responsibilities and obligations of the committee. Make sure you keep the settlor functions out of the charter, unless you indicate that they are settlor functions.
  • Meeting procedures.
  • Who appoints and monitors committee members.
  • The committee reviews the Form 5500.
  • The committee reviews the actuary report.
  • The committee periodically reviews the investment policies and statement.
  • The committee periodically reviews fees.

Tip 5: Properly Manage Your TPA and Other Vendor Contracts. Do not allow your vendors to use a good faith or gross negligence standard. Require that your investment advisors agree to be fiduciaries.

Tip 6: Follow the Plan’s Claims and Claims Review Procedures. Claims and claims review procedures protect the employer and the plan. Failure to follow these procedures can result in courts approving claims that otherwise would be denied. Recognize that all of these documents are subject to disclosure in the court. When you deny a claim or claim review request, make sure that your denial has the required ERISA language in the response. Recognize that the record created on the claims and claims review process is the record that will be reviewed in court. This is an opportunity for the plan to limit the record by having a good claims and claims review procedure. Respond to document requests timely. We see employers that do not want to provide this information, basically out of spite. That is not the best approach.

Tip 7: Periodically Read Your Plan and SPD. Do your plan provisions reflect your intent? Are your plan document and SPD consistent? Recognize that the plan document controls. If you’re administering the plan contrary to the plan document, this can result in plan disqualification. Many times, we see a plan restated where the restated plan document does not carry over all the provisions of the prior plan, creating administration that is different than the plan document.


Employers with collectively bargained employees need to be aware that the costs of participating in a union sponsored benefit fund (i.e., a multiemployer plan) may be much greater than the negotiated contributions. The greatest exposure commonly comes from withdrawal liability — generally an employer’s pro rata share of a multiemployer pension plan’s unfunded vested benefits that is assessed when the employer “withdraws” its participation from the plan. However, a myriad of other statutory and contractual issues with multiemployer pension and welfare plans creates traps for the unwary. What follows are certain liabilities which unionized employers should be considering:

  • Mass Withdrawal Liabilities For Multiemployer Pension Funds

Withdrawal liability must be considered whenever an employer will incur a complete or partial cessation in its obligation to contribute to a multiemployer pension plan – e.g., due to a facility closing, asset sale, bargaining unit “takeout,” workforce reduction, or transfer of work. But even if the employer does not incur such a “withdrawal,” liabilities may be imposed at any time, – as a result of a “mass withdrawal” occasioned by actions of the plan trustees, or other participating employers.

  • Fund Assessments

Trustees of pension and welfare funds may impose costs on employers pursuant to the terms of trust documents, (usually incorporated by reference in the CBA), or participation agreements. These “blank check” provisions can result in “contractual” withdrawal liability (in both a pension and welfare plan context) and midterm contribution increases, among other midterm “surprises.”

  • New Personal Liability Exposures 

Trust documents for multiemployer plans are increasingly designating contributions which are “owed” as “plan assets.” On this basis, courts are sustaining actions for unpaid contributions against individual company officials and owners as “fiduciaries” who are personally liable.

  • Liabilities As a Joint or Successor Employer, or for Subcontractors

Withdrawal liability and other funding exposures can arise in a number of unexpected contexts – even when the employer is not the contributing employer. For example, such liabilities can be imposed for utilizing subcontractors (particularly in a construction industry context), and funds are increasingly pursuing contributions and unpaid withdrawal liability payments from successor or joint employers based, in large measure, upon labor law principles – and courts are increasingly sustaining such actions.

Measures to Address Plan Exposures

The foregoing are only some of the potential liabilities that unionized employers should now be reviewing. Consider the following:

  • Get Proactive: Employers should not be passive participants in multiemployer plans; they should become proactive and coordinate with the employer trustees to address developments before liabilities are imposed, — like forming action groups (or bargaining associations) with other employers.
  • Plan Initiated Programs: Be creative: a number of multiemployer pension plans are offering to renegotiate the terms of employer participation; for example, by retiring potential withdrawal liability while offering participation in a new “plan” with theoretically minimal future liability exposure. Other funds have agreed to “spinoffs” of liabilities and assets to new employer sponsored plans on favorable terms. Structured solutions are possible.
  • Review Controlling Plan Documents: Trust documents, trustee rules, and participation agreements should be reviewed and appropriately addressed.
  • Obtain Withdrawal Liability Estimates: Request an estimate of withdrawal liability annually. The plan must provide the estimate within 180 days and may charge for the estimate.
  • Renegotiate Agreements: No CBA, renewal CBA, or participation agreement should ever be entered into without a review of potential exposures.

In the present legal climate, employers can no longer participate in multiemployer pension plans on the basis of “business as usual.” By adopting a proactive posture, employers, acting individually, but preferably in unison, can recapture rights in collective bargaining, and/or seek the appointment of employer trustees with proper regard for plan funding administration both in the long and short term. The range of considerations and possible initiatives is considerable, and the foregoing is simply an overview of this complex subject.

Employers Take Note! IRS Improves Certain Retirement Plan Correction Procedures

The Internal Revenue Service encourages employers and other retirement plan sponsors to voluntarily and timely correct plan failures to help ensure the plans’ ongoing tax-qualified status (and tax-favored treatment). However, in some cases, the IRS’ Employee Plans Compliance Resolution System (“EPCRS” – most recently restated in Revenue Procedure 2013-12) correction method for minor errors results in substantial costs to employers relative to the errors being fixed and a windfall to affected participants.

As discussed below, the IRS provides employers with new (and less costly) options for correcting certain elective deferral failures in Revenue Procedure 2015-28. In addition, in Revenue Procedure 2015-27, the IRS modifies and clarifies certain guidance for correcting retirement plan qualification failures. Instead of entirely replacing the current EPCRS program, this new revenue procedure clarifies overpayment recoupment rules, modifies the self-correction rules regarding certain annual addition failures, and lowers the fees for certain voluntary correction submissions, among other things.

Failure Related to Automatic Contribution Features.  When an employer fails to implement an automatic deferral (including elective deferrals made in lieu of automatic deferrals which were not implemented properly) under the EPCRS, the employer generally is required to make a qualified nonelective contribution to make up for the missed deferral opportunity by contributing 50% of the missed deferral amount. The employer is also required to make up any missed matching contributions and missed earnings. In RP 2015-28, the IRS appears to acknowledge the inequity of this provision and provides an alternative correction method which eliminates the requirement for employers to make this 50% of the missed deferral contribution as long as certain correction timing and notice requirements are satisfied. RP 2015-28 also allows the employer to use the plan’s default investment alternative’s performance to determine lost earnings on missed matching contributions, if any, significantly simplifying this calculation.

Brief Failures. The modification to the EPCRS also allows employers to correct brief (up to 3 months) elective deferral failures without making a contribution for the lost deferral opportunity, subject to correction timing and notice requirements. Similarly, the modification to the EPCRS provides for a reduced employer contribution (25% of the affected employee’s missed deferral) if the elective deferral failure is not “brief”, but is timely corrected within a limited period in accordance with the EPCRS and the notice requirements are met.

 Plan Overpayment Failures. When a plan participant receives a greater benefit than the benefit to which he or she is entitled under the plan terms, the overpayment may be corrected by having the participant repay the plan or by reducing future benefit payments to the participant. Large overpayment recoupments have resulted in financial hardships – particularly in cases where periodic pension overpayments continued for many years. RP 2015-27 clarifies the existing rules for overpayments paid to plan participants by stating that plan sponsors have some flexibility to correct overpayments and that plans aren’t required to recoup overpayments in every situation. Depending on the facts and circumstances, it may be appropriate for the employer itself (or another party, if at fault) to restore the overpayment amount to the plan or to retroactively amend the plan to conform with the overpayment (which still would require submission to the IRS under the Voluntary Correction Program). The IRS seeks public comments on the circumstances in which employers should be required to restore the overpayment amount.

Excess Annual Addition Failures. The annual addition (the amount that may be contributed by the employer and employee to an employee’s 401(k) or 403(b) plan account) is limited by Internal Revenue Code section 415(c). RP 2015-27 modifies RP 2013-12 to permit plan sponsors to use the Self Correction Program to correct excess annual additions – even recurring excess annual additions – if the plan only has elective deferrals and nonelective contributions (but not plans that have matching contributions). The timeframe for distributing excess annual additions is increased to 9 ½ months (instead of 2 ½ months).

Fees For Correcting Minimum Distribution and Loan Failures. Generally, the Voluntary Correction Program fee is based on the number of participants such that, depending on the number of participants, an employer would have to pay a VCP fee of anywhere from $750 (plans with no more than 20 participants) to $25,000 (plans with over 10,000 participants). RP 2015-27 lowers the VCP fee where the sole failure being corrected under VCP is late payment of required minimum distributions and affects no more than 300 plan participants.   If the employer meets the conditions for the reduced VCP fees, the fee would be $1,500 for minimum distribution failures involving 151 to 300 participants and only $500 for minimum distribution failures involving no more than 150 participants.

If the only failure involves loan failures that affect no more than 25% of participants, the general VCP fee – based on the number of participants as set forth in RP 2013-12 – is reduced by 50%. RP 2015-27 sets the VCP fee at $3,000 where over 150 loan failures are being corrected and at $300 where no more than 13 loan failures are being corrected.   (Self correction, without a VCP filing, still is not available for loan failures.)


While RP 2015-27 and RP 2015-28 make the IRS’ correction program easier to use and less costly in certain ways, additional flexibility and fee relief would be welcome for employers seeking to ensure continuation of employee retirement benefit programs.

Section 529A Qualified ABLE Programs: Tax-Favored Savings Vehicle for Disabled Individuals

First effective in 2015, the federal Achieving a Better Life Experience (ABLE) Act created Internal Revenue Code section 529A qualified ABLE programs, which provide a means of tax-favored savings for disabled individuals.

Section 529A qualified ABLE programs are modeled on Section 529 qualified tuition programs and must be implemented by individual states. States that have already enacted ABLE programs include: Kansas, Virginia, North Dakota, Arkansas, Utah, Louisiana and Massachusetts. Many other states have legislation pending.

The features of 529A programs include:

  • Accounts are only available for individuals who became disabled before age 26. Disability is defined in accordance with the Social Security Act.
  • Contributions are made on an after-tax basis and are currently limited to $14,000 per year per beneficiary from all sources.
  • Account balances of $100,000 or less will not disqualify the disabled individual from Supplemental Security Income (SSI). SSI payments will be suspended when account balances exceed $100,000, but will resume when balances fall to $100,000 or less. Medicaid eligibility is not impacted by the amount of a 529A account balance.

Previously, SSI and other public benefits were not available to disabled individuals with $2,000 or more in assets.

  • Earnings are tax free.
  • Distributions are tax free if they are used for qualifying expenses. Qualifying expenses include education, housing, transportation, employment training and support, assistive technology and personal support services, health, prevention and wellness, financial management and administrative services, legal fees, oversight and monitoring, and funeral and burial expenses.
  • Distributions that are used for nonqualifying expenses are taxed as ordinary income and are subject to an additional 10% penalty.
  • Distributions may only occur in the state where the disabled individual resides.

                        Presumably, this will facilitate compliance regulation.

  • Any balance left in the 529A account after the disabled individual’s death is subject to a recoupment claim by the state’s Medicaid program for payments made after the 529A account was opened.

Section 529A ABLE programs provide a familiar formula for low cost tax-favored savings that will enable families to provide support for disabled loved ones without jeopardizing access to public benefits — at least as long as account balances do not exceed $100,000. It is a welcomed benefit that is expected to see wide adoption by states across the country.

EEOC Publishes Proposed Wellness Program Regulations

Today the Equal Employment Opportunity Commission (EEOC) published long-awaited proposed regulations on wellness programs (Proposed Regs) that are intended to harmonize certain provisions of the Americans with Disabilities Act (ADA) with long-standing rules concerning wellness programs applicable to group health plans under the Health Insurance Portability and Accountability Act (HIPAA), and more recently, the Affordable Care Act (ACA). To be clear, these regulations are proposed at this point, and they can be influenced by comments the EEOC receives from stakeholders over the next 60 days. So, employers, wellness program administrators and other stakeholders, you’ll need to move quickly and submit comments if you would like to see some changes and clarifications to these proposed rules before they become final.

By and large, the proposed regulations provide some relatively good news for employers maintaining certain wellness programs.  There certainly would be increased harmony between the ADA and the HIPAA/ACA rules. However, nothing is easy, and that is the case here as the EEOC did not propose a wholesale adoption of the HIPAA/ACA rules. Employers and others need to review these rules carefully to understand their effects on all wellness programs, including those that are operated as part of a group health plan. Here are some important issues to consider:

  • For covered wellness programs that are part of a group health plan, the Proposed Regs would cap the allowable incentive at 30% of the cost of employee-only coverage (remember that under the ACA and HIPAA this means the employer and employee portion of the premium), even though the ACA allows incentives for certain tobacco cessation programs to go as high as 50%.
  • The Proposed Regs appear to reference only employee-only coverage as the basis for calculating the 30% cap. But, the HIPAA/ACA rules apply the 30% cap to other tiers of coverages, such as family coverage, which increases substantially the amount of incentives available for use.
  • The Proposed Regs say the ADA’s safe harbor does not apply to wellness programs.  They claim it renders the Title I ADA provisions on voluntary wellness programs “superfluous.”  This is contrary to court decisions (including the federal Court of Appeals for the Eleventh Circuit) and is most certain to be controversial.
  • The Proposed Regs would require that wellness programs that obtain medical information (either by inquiry or medical examinations/biometric testing) be reasonably designed to promote health. The Proposed Regs suggest this means, in part, that a program with a simple health risk assessment will need to have some follow-up mechanism (such as providing feedback about risk factors) that is reasonably designed to improve employee’s health.
  • For covered wellness programs that are part of a group health plan, employers must notify employees of the following:
    • what medical information is being obtained,
    • the purposes for which it is being obtained,
    • who gets the medical information,
    • the restrictions on how it will be disclosed, and
    • safeguards in place to prevent unauthorized disclosure.
  • The Proposed Regs do not address the application of the Genetic Information Nondiscrimination Act (GINA) to wellness programs, but expressly mention guidance on GINA will be forthcoming. Also, the Proposed Regs only address the ADA’s application to certain wellness programs regarding disability-related inquiries and medical examinations, thus, concerns such as those under Title VII and the ADEA linger.

If adopted, compliance with the “reasonable design” and “notice” requirements may prove more challenging than one initially thinks.  At a minimum, it would require employers to think through the goals and administration of wellness programs covered by the Proposed Regs, and whether those programs are part of a group health plan under ERISA. Employer should be reviewing their programs now to consider what effects the proposed rules would have on their programs, and perhaps whether to submit comments to help share the rules to address their concerns.

Outsourcing Payroll? IRS Guidance Helps Employers Understand Their Rights and Responsibilities

Many employers decide to outsource their payroll administration to third-party vendors. Many employers who decide to hire a third-party vendor anticipate that the vendor understands how to fill out the forms necessary to the reporting of income and employment taxes; comply with the Patient Protection and Affordable Care Act reporting obligations; and to properly calculate and timely pay over to the IRS withheld employee income tax and the employer and employee’s respective share of employment taxes. Most employers anticipate that if they pay income taxes and employment taxes into a vendor’s account, or give a vendor authorization to withdraw income taxes and employment taxes from the employer’s accounts, that the income and employment taxes will be paid over to the United States Treasury.

Unfortunately, there are all too many circumstances where actual vendor performance does not meet employer expectations. Worse, there are too many circumstances where the employer finds that money set aside from employee income tax withholdings, and the employer and employee share of payroll taxes, does not get paid over to the Treasury. Worse still, such an employer will often be shocked to discover that the employer, not the vendor, is completely liable to the U.S. Treasury for unpaid income and employment taxes, even though the taxes were paid to the vendor or removed from the employer’s accounts by the vendor.

Recently, the IRS published guidance for employers entitled Outsourcing Payroll. The primary purpose of the guidance is to help employers understand which of the three potential types of relationships may exist with respect to third-party payroll vendors under IRS rules. Perhaps more importantly, the guidance informs employers which of the outsourcing relationships leave the employer solely liable for unpaid income and employment taxes, and penalties associated with failing to file payroll reports, if the vendor does not perform as promised.

There is only one kind of relationship that imposes joint and several liability upon a third-party payroll vendor and employer for taxes and penalties that may arise with respect to the reporting and payment of income and employment taxes. The relationship is called a “Section 3504 Agent” relationship and it is formed only when the employer and agent complete and sign an IRS Form 2678. A vendor that executes the Form 2678 is essentially standing in the shoes of the employer for purposes of reporting and paying over employment taxes and withheld income taxes. A special schedule, called “Schedule R” gives the IRS notice that the vendor is processing payroll under a Form 2678 agreement. A special feature of this kind of agency relationship is that the Section 3504 Agent has the authority to verify whether an employee’s tax identification number for payroll purposes matches the IRS’ records.

Contrastingly, a “Reporting Agent” relationship is created when the employer and vendor execute a Form 8655. With this Form, the employer is essentially giving the vendor a power of attorney to act on the employer’s behalf with regard to income tax and payroll tax reporting on the employer’s payroll. However, the employer remains completely and utterly responsible for the reporting, calculation and tax payment functions if the vendor makes an error or, more serious, takes the employer’s money that is designated for income and employment taxes and diverts the money for other uses.

Finally, a “Payroll Service Provider” is a third-party that assists with the employer’s reporting and payroll deposit functions, but does not stand in the shoes of the employer or act on behalf of the employer before the IRS. This type of relationship, like the Reporting Agent relationship, leaves the employer solely liable for correct and timely filing of payroll-related reports and for payments of income and employment taxes.

So what should an employer who desires to outsource payroll do? First, identify what kind of relationship the vendor proposes to create in its contract with the employer. Obviously, the Section 3504 Agent relationship is the most protective of the employer’s interests and finances. The employer should consider the risks and benefits of entering into a relationship with a vendor that proposes a different arrangement. Second, the employer should demand that the vendor produce evidence of, and maintain a bond (insurance) sufficient to cover the aggregate of the vendor’s payroll payment liability (for the payroll of all clients) for at least three quarters—long enough for the employer to receive notice from the IRS that income and employment taxes have not been paid and take appropriate responsive action.

Finally, employers should monitor, quarterly, the performance of any third-party payroll administrator to make sure that all money provided to that vendor for tax payments is actually paid over to the Treasury. The employer should establish independent verification processes with the bank or financial institution that is holding and transmitting income and employment tax payments. This will help protect the employer from any diversion of funds by a payroll vendor and the consequential “double-loss” of money that is set aside for income and payroll taxes never paid to the Treasury, and the IRS assessment and collection of money that the Treasury never received.

Failure to Provide Individualized Post-Termination Notice of Life Insurance Conversion Rights Does Not Give Rise to an ERISA Breach of Fiduciary Duty Claim: Prouty v. The Hartford Life & Acc. Ins. Co.

In Prouty v. The Hartford Life & Acc. Ins. Co. & C&S Wholesale Grocers Inc., 997 F. Supp. 2d 85, 88 (D. Mass. 2014), the plaintiff asserted an ERISA claim against her former employer and the issuer of her employer’s group life insurance plan, claiming that both breached their fiduciary duties by failing to provide proper notice and explanation of the plaintiff’s life insurance conversion rights. In rejecting the plaintiff’s claim, the court noted that, “other courts who have addressed the issue of whether plan administrators and insurers are required to provide plan participants with post-termination notice of life insurance conversion rights have found no such requirement. Walker v. Fed. Express Corp., 492 Fed. Appx. 559, 565 (6th Cir. 2012) (noting that ‘ERISA does not contain any provision that requires a plan administrator to provide notice to plan participants other than a summary plan description and information of the benefits plan as discussed under 29 U.S.C. §§ 1021(a)(1) and 1022,’ which do not include life insurance conversion rights); Howard v. Gleason Corp., 901 F.2d 1154, 1161 (2d Cir. 1990) (stating that ERISA does not mandate notice of life insurance conversion privileges); Weeks v. W. Auto Supply Co., 2003 WL 21510822, at *5 (W.D. Va. June 25, 2003) (post-termination notice requirements under ERISA apply to a group health plan, but not to a life insurance plan).” Id. at 91.

The court also concluded, “there is no requirement under [ERISA] to provide notice of conversion rights for life insurance policies.” Prouty, 997 F.Supp.2d at 91. This concept applies to both the insurer as well as to the administrator. Id.

Plan Administrator Considerations in Light of this Decision

Plan Administrators should beware of Prouty’s broad rejection of any requirement under ERISA to provide notice to participants of life insurance conversion rights as other courts have taken a different position on this issue. See Weaver Bros. Ins. Assocs., Inc. v. Braunstein, No. 11-5407, 2014 U.S. Dist. LEXIS 78626, at *36-37 (E.D. Pa. June 9, 2014) (The Court disagreed with Prouty and found that a conversion right must be included in an SPD where “failure to exercise the right functions as a ‘circumstance[] which may result in disqualification, ineligibility, denial or loss of benefits.’ 29 U.S.C. § 1022(b)”).

Prouty is more safely interpreted as further support for the proposition that individualized notice to participants of life insurance conversion rights is not required under ERISA, but may be required by the governing plan, and should still be provided as best practice.

ACA Cadillac Tax Proposed Regs: What Treasury and IRS Are Considering

The Affordable Care Act (“ACA”) added section 4980I to the Internal Revenue Code (“Code”). Code section 4980I applies to tax years after December 31, 2017, and provides a tax on high cost employer-sponsored health coverage – if the aggregate cost of employer-sponsored coverage (referred to as “applicable coverage”) provided to an employee exceeds a statutory dollar limit, the excess is subject to a 40% nondeductible excise tax. Employers, health insurers and plan sponsors are potentially liable for the tax, which is popularly known as the Cadillac Tax.

In Notice 2015-16, IRS and Treasury describe numerous approaches being considered for Code section 4980I proposed regulations — many of which are based on analogous COBRA rules — and have invited public comment.  An overview of the main Code section 4980I approaches follows.

Definition of Applicable Coverage

Included Coverage:

 Generally, applicable coverage is coverage — whether paid for by the employer or the employee — under any group health plan made available by an employer to an employee, former employee, surviving spouse or other primary insured individual that is excludible from the employee’s gross income under Code section 106. Applicable coverage includes retiree coverage, health flexible spending accounts (“FSAs”), civilian governmental plans, multiemployer plans and coverage provided through on-site medical clinics.

Treasury and IRS anticipate that future proposed regulations will include as applicable coverage executive physical programs, Health Reimbursement Arrangements (“HRAs”) and employer contributions to Health Savings Accounts (“HSAs”) and Archer Medical Savings Accounts (“Archer MSAs”).

Excluded Coverage:

Applicable coverage excludes excepted benefits — i.e., benefits that are generally exempt from the requirements of the ACA and the Health Insurance Portability and Accountability Act (“HIPAA”) — including: accident-only coverage, disability income insurance, general liability insurance, auto liability insurance, supplemental liability insurance, workers compensation coverage, automobile medical payment insurance and credit only insurance. Applicable coverage also excludes long term care coverage, separate insured coverage for treatment of the mouth or eye, and specific disease or illness coverage and hospital indemnity insurance paid for with after-tax dollars.

 Treasury and IRS anticipate that future proposed regulations will also exclude as applicable coverage employee after tax contributions to HSAs and Archer MSAs as well as coverage provided through on-site medical clinics that is limited to de minimus medical care — such as first aid.

Treasury and IRS seek comment on the treatment of on-site medical clinics and, specifically, on-site medical clinics that provide services in addition to, or in lieu of, first aid; on any reason why self-insured limited scope dental and vision coverage that qualifies as an excepted benefit should not be excluded from applicable coverage; and on any reason employee assistance plans that qualify as excepted benefits should not be excluded from applicable coverage.

Determination of Cost of Applicable Coverage:


Under Code section 4980I, the cost of applicable coverage is generally determined in accordance with rules similar to the rules that apply in determining COBRA applicable premiums — which are based on the average cost of providing coverage under a plan to similarly situated non-COBRA beneficiaries. The cost of applicable coverage must be determined before the start of a 12-month determination period. In addition, plans and employers must operate in good faith compliance with a reasonable interpretation of statutory requirements.

Average Cost for All Similarly Situated Employees:

Treasury and IRS anticipate that, for any type of applicable coverage in which the employee is enrolled, the cost of the applicable coverage will be based on the average cost of the applicable coverage for the employee and all similarly situated employees.

Determining Similarly Situated Employees – Considered Potential Approach:

For purposes of calculating average cost, Treasury and IRS are considering, and seek comment concerning, a potential approach whereby similarly situated employees would be determined by: (a) aggregating employees based on the benefits package in which they are enrolled; (b) subdividing each group based on mandatory disaggregation rules; and (c) allowing further subdivision of each group based on permissive disaggregation rules.

Aggregation by Benefits Package:

First, all employees enrolled in a particular employer-provided benefits package will be aggregated into groups based on the benefits package in which they enroll (i.e., high option enrollees grouped together, standard option enrollees grouped together, etc.)

Mandatory Disaggregation by Type of Coverage:

Second, each benefits package aggregation group will be disaggregated based on the type of coverage the employee has enrolled in — i.e., self-only coverage or other-than-self-only coverage (such as self plus spouse coverage, family coverage, etc.).

Important note: There is no statutory requirement to further disaggregate the other-than-self-only coverage groups based on the number of family members actually enrolled in the coverage. Thus, there is no requirement that the applicable cost for employee plus spouse coverage be determined separately from the cost of employee plus family coverage — even though the actual cost of such coverage may vary. Accordingly, Treasury and IRS are considering allowing employers to treat all employees enrolled in the same benefits package with any type of other-than-self-only coverage as similarly situated in determining the cost of applicable coverage for that group.

Permissive Disaggregation by Traditional Group Insurance Market Distinctions:

Treasure and IRS are considering whether permissive disaggregation should be allowed based a broad standard — such as bona fide employment-related criteria, which might include specified job categories or collective bargaining status — or based on more specific standards — such as a list of categories, which might include current employees and former employees, bona fide geographic distinctions, or the number of family members enrolled in other-than-self-only coverage.

Permitted Methods for Self-Insured Plans:

Treasury and IRS anticipate that the two methods self-insured plans may use to calculate COBRA applicable premiums — the actuarial basis method and the past cost method — will also apply to self-funded plans for purposes of determining the cost of applicable coverage under Code section 4980I.

Actuarial Basis Method:

Under the actuarial basis method — which must be used unless the plan is eligible for, and elects, the past cost method — the cost of applicable coverage is equal to a reasonable estimate of the cost of providing coverage to similarly situated beneficiaries determined on an actuarial basis and accounting for factors prescribed by Treasury and IRS — none of which have as of yet been issued.

Treasury and IRS are considering, and invite comment concerning, whether to propose a broad standard pursuant to which an estimate of cost would be an estimate of actual cost, rather than an estimate of the minimum or maximum exposure the plan could experience during the 12-month determination period.

Past Cost Method: 

Measurement Period:

Under the past cost method — which may be elected if there has not been a significant change in coverage under, or employees covered by, the plan during the preceding 12-month measurement period — the cost of coverage equals the cost to the plan for similarly situated beneficiaries for the same period occurring during the preceding 12-month determination period, subject to a statutory adjustment factor.

Treasury and IRS are considering, and request comment concerning, whether to issue guidance providing that the 12-month measurement period may be any 12-month period ending not more than 13 months before the current determination period — and that any such 12-month measurement period would have to be applied consistently.

Costs Taken Into Account:

Treasury and IRS are considering, and request comment concerning, anticipated proposed regulations concerning the costs to be included in past cost method calculations. Potentially included costs include: (a) claims — either incurred or submitted –; (b) stop-loss or reimbursement policy premiums; (c) administrative expenses; and (d) the employer’s reasonable overhead expenses allocable to health plan administration.

Changing Between Methods:

Treasury and IRS are considering, and seek comment concerning whether to adopt, a rule generally requiring a self-insured plan to use a chosen valuation method for a period of five years — subject to an exception for coverage periods during which there has been a significant change in coverage under, or employees covered by, the plan, in which case the plan might be required to use the actuarial basis for two years — to prevent the possibility of abuse posed by switching between actuarial basis and past cost methods.


Treasury and IRS anticipate, and invite comments concerning the specifics around, future guidance providing that HRAs are applicable coverage and providing approaches for determining the cost of applicable coverage under an HRA and for the treatment of HRA benefits that do not qualify as applicable coverage.

Determination Period:

Treasury and IRS are contemplating, and invite comments concerning whether, the method for calculating the cost of applicable coverage should occur in advance of a 12-month determination period. Thus, a self-insured calendar year plan would elect the actuarial basis method or the cost method prior to the beginning of the calendar year. Generally, using an advance election would enable plan sponsors to know the Code section 4980I liability at the beginning of the tax year.

Additional Rules:

 There are additional rules for calculating the cost of applicable coverage for Code section 4980I purposes. Specifically, the cost of applicable coverage: (a) may not include the cost of the Code section 4980I tax imposed on the coverage; (b) must be calculated separately for self-only coverage and other-than-self-only coverage; (c) with regard to retiree coverage, may include pre-age 65 and post-age 65 retirees as similarly situated beneficiaries; (d) with regard to FSAs, includes employer flex contributions; (e) with regard to HSAs and Archer MSAs, consists of employer contributions including salary reductions; and (f) must be determined on a monthly basis.

 Application of Annual Statutory Dollar Limit to Cost of Applicable Coverage :


Code section 4980I provides an annual dollar limit for employees with self-only coverage and an annual dollar limit for employees with other-than-self-only coverage. Generally, employees are treated as having other-than-self-only coverage if the employee and at least one other family member are enrolled in employer-provided minimum essential coverage — i.e., group health coverage other than excepted benefits.

Potential Approaches for Employees with Both Types of Coverage:

Treasury and IRS note that it is possible for an employee to have both self-only and over-than-self-only coverage — for example, an employee with self-only major medical coverage and family HRA coverage.

Treasury and IRS are considering, and ask for comment concerning, two potential approaches in the event the employee has both types of coverage. Under the first potential approach, the employee’s most expensive coverage will determine the dollar limit applicable to the aggregate cost of all of the employee’s coverage.

Example: An employee has self-only coverage that costs $5,000 and other-than-self-only coverage that costs $15,000. The other-than-self-only coverage limit would apply to the entire $20,000.

 If the cost of the employee’s self-only coverage and other-than-self-only coverage are equal, the other-than-self-only coverage limit would apply.

Under the second approach, the respective dollar limits would be prorated based on the cost of the employee’s self-only coverage and other-than-self-only coverage.

Example: An employee has self-only coverage that costs $5,000 and other-than-self-only coverage that costs $15,000. The dollar limit would be a composite of 25% ($5,000/($5,000 + $15,000)) of the self-only coverage dollar limit and 75% ($5,000/($5,000 + $15,000)) of the other-than-self-only limit.

Dollar Limit Adjustment:

 Currently, for 2018 the self-only coverage dollar limit is $10,200 and the other-than-self-only coverage dollar limit is $27,500. These dollar limits will be subject to a “health cost adjustment percentage” — which is determined with reference to, inter alia, the per-employee cost of Federal Employees Health Benefit Plan coverage — to determine the actual dollar limits for 2018. For years after 2018, a cost-of-living adjustment will apply.

Treasury and IRS expect to include in the proposed regulations, and invite comment concerning, rules regarding the dollar limit adjustments. Treasury and IRS also invite comment concerning: adjustments for retirees who are at least 55 and are not entitled to/eligible to enroll in Medicare, adjustments for high risk professions and age and gender adjustments. Finally, Treasury and IRS invite comment on possible alternative methods for determining the cost of applicable coverage, including reference to similar coverage available elsewhere — such as Exchange coverage.


Comments concerning the potential approaches described in Notice 2015-16 may be submitted at Notice.comments@irscounsel.treas.gov. and should include “Notice 2015-16” in the subject line.

IRS and Treasury anticipate issuing an additional notice in advance of the publication of proposed regulations under Code section 4980I. The anticipated additional notice will describe and invite comments on issues not addressed in Notice 2015-16, including issues related to calculation and assessment of the Cadillac Tax.

Key Take Away:

There are many details for Treasury and IRS to finalize around the Cadillac Tax. Employers, health insurers and plan sponsors should continue to carefully monitor ACA developments.