Beginning January 1, 2014, the Patient Protection and Affordable Care Act ("ACA") requires employers with 50 or more full-time employees or full-time equivalents to offer full-time employees and their dependents affordable health coverage or pay a penalty. Under regulations recently proposed by the Internal Revenue Service ("IRS"), smaller employers also may be subject to the "pay or play" penalty under the ACA because a "controlled group" is considered a single employer for purposes of determining whether the 50-employee threshold is met. The requirements then apply to each individual employer in the group, regardless of whether the employer itself has 50 employees. These penalties may be substantial, and employers should assess their applicability when making decisions regarding health coverage for the 2014 plan year.
The information provided below briefly summarizes the requirements of the employer mandate and then discusses how these requirements apply to commonly controlled entities, such as foreign parents with subsidiaries in the United States.
Overview of Employer Mandate
IRS guidance sets forth detailed rules and safe harbors for determining the number of an employer's full-time or full-time equivalent employees. For employers with 50 or more such employees, the penalties under the ACA are calculated as follows:
Employer Provides No Coverage. If an employer does not offer minimum essential coverage to its full-time employees and at least one employee receives a premium tax credit to purchase insurance on a state exchange, the employer owes a penalty equal to the number of its full-time employees during the year, minus 30 employees, multiplied by $2,000. This penalty is prorated monthly for employers that offer coverage during some months but not others. For this purpose, an employer is treated as offering coverage to all full-time employees if it covers all but 5% of its employees, or five full-time employees, if greater. Because of the five-employee minimum, a very small employer that is part of a larger controlled group may be required to provide coverage to all of its full-time employees.
Employer Provides Coverage but at Least One Employee Receives a Premium Tax Credit. Even if an employer offers minimum essential coverage to its full-time employees, if at least one full-time employee receives a premium tax credit to purchase insurance on a state exchange, the employer is responsible for a payment equal to the number of full-time employees who received a premium tax credit for each month multiplied by 1/12 of $3,000. The payment for any calendar month is capped at the total number of full-time employees in the month, minus 30 employees, multiplied by 1/12 of $2,000. This penalty may be assessed because the coverage offered either is unaffordable or does not provide minimum value.
Note that whether an employer has 50 or more employees is determined based on both full-time employees (those who work at least 30 hours per week) and full-time equivalent employees (those who work less than 30 hours per week and whose hours are added together to determine full-time equivalents), but the penalties are calculated based only on the number of full-time employees. The 30-employee exclusion is allocated pro rata among the members of a controlled group based on the number of full-time employees of each. The penalties are not paid automatically by an employer but rather are assessed by the IRS after the end of the year.
Controlled Group Rules
Under §414(c) of the Internal Revenue Code (the "Code"), a controlled group exists when any two or more entities are connected through ownership in a parent-subsidiary controlled group, a brother-sister controlled group, or a combination of the foregoing. Any type of business entity can be a member of a controlled group for benefit plan purposes, for example, a corporation, partnership, sole proprietorship or limited liability company. There generally are three types of controlled groups:
A "parent-subsidiary" controlled group exists when a parent company directly or indirectly owns 80% of a subsidiary organization;
A "brother-sister" controlled group exists where the same five or fewer persons own more than 80% of two or more other entities and own more than 50% when taking into account the ownership of each person only to the extent that it is identical with respect to each such entity; and
A "combined" controlled group exists where a group includes both parent-subsidiary and brother-sister members.
Companies that are part of the same controlled group generally must be combined for the purpose of determining whether they collectively employ 50 or more full-time or full-time equivalent employees under the ACA. Where the combined total of full-time or full-time equivalent employees in a controlled group is at least 50, each individual employer is subject to the employer mandate, even if such employer itself does not employ enough employees to meet the threshold.
These rules apply for purposes of determining whether an employer meets the 50 full-time employee threshold, regardless of whether the parent or owner is located in the United States. For example, a foreign-based company with several subsidiaries in the United States must aggregate the employees of the parent and all subsidiaries who work in the United States for purposes of complying with the ACA. This requirement may be problematic for foreign-owned subsidiaries operating in separate lines of business that may or may not know of the existence of the other related companies because of the pro rata allocation of the 30-employee exclusion and required coverage of all but 5% of employees, or five full-time employees, if greater.
Failure of employers to adequately assess their exposure under the ACA and assess whether they may be subject to the "pay or play" penalties as members of a controlled group could potentially result in significant penalties. In addition, the IRS has warned that it is planning to put in place anti-abuse rules with additional penalties to discourage employers from attempting to evade penalties through regulatory loopholes. It is also possible that individual directors and executives could be held personally liable for failure to comply with the mandate, although further guidance on this issue from the IRS is necessary.
If you have questions about the ACA, application of the controlled group rules or any other employee benefits matter, please contact Charlotte Offerdahl at 336.994.6395 or Katie Iams at 704.335.6640.