(QSEHRAs) Revisited: Are They a Good Option?
By: John Hickman and Carolyn Smith, Alston & Bird LLP
OF INTEREST TO EMPLOYERS WITH FEWER THAN 50 FULL-TIME EQUIVALENT EMPLOYEES
Qualifying small employers may help employees purchase individual market major medical coverage and pay for other medical expenses on a tax-free basis through a Qualified Small Employer Health Reimbursement Arrangement (QSEHRA). Legislation authorizing QSEHRAs was enacted in 2016. The IRS recently issued comprehensive Q&A guidance in IRS Notice 2017-67. QSEHRAs offer qualifying employers a new plan design but also have significant limitations and compliance issues. As a result, QSEHRAs may not be appropriate for all small employers and the takeup rate so far has been slow. This article provides an overview of the IRS guidance and some of the more significant QSEHRA compliance requirements.
Employers of all sizes have become interested in a more “defined contribution” approach to employee health coverage that allows the employer to help their employees purchase health coverage while also allowing the employer to have a fixed cost. One approach that has been of interest is to provide employees assistance in purchasing individual market coverage, such as through a health reimbursement arrangement. However, federal agency guidance under the Affordable Care Act (ACA) generally prohibits such arrangements. In some cases, even post-tax reimbursement of individual market major medical insurance is not permitted, depending upon the level of employer involvement in the arrangement. Prior to the enactment of QSEHRAs, employers that adopted these types of arrangements were subject to a potential $100 per person per day excise tax penalty.
The QSEHRA legislation effectively overrules the agency guidance for certain small employers. Provided all applicable requirements are followed, employer contributions to a QSEHRA are not subject to employment taxes or includible in employees’ incomes. Additionally, distributions from the QSEHRA for individual market major medical insurance or other medical expenses are not taxable. QSEHRAs are not subject to the ACA market reforms and are not subject to COBRA requirements.
Top-10 Compliance issues for QSEHRAs
Top compliance concerns for a small employer considering adopting a QSEHRA include the following:
- The employer must not be an “applicable large employer” as defined under the ACA employer penalty provisions. Stated generally, this means that the employer must have fewer than 50 full-time equivalent employees in the prior calendar year. If the employer is part of a controlled group of companies, all employees of the related companies are counted for this purpose.
- The employer must fund the QSEHRA with real employer contributions (not salary reductions). This means that the employer must actually pay for the cost of individual medical coverage. The maximum annual permitted QSEHRA benefit is $5,050 ($10,250 if the arrangement covers family members). Any additional employee contributions to pay for individual market coverage premiums must be on an after-tax basis. For the employee portion, after-tax payroll deduction is permitted, provided that the employer does not endorse any specific carrier, policy or form (see No. 4 below).
- The employer (including controlled group members) cannot offer, sponsor or endorse any other group health plan coverage. Unfortunately, the IRS guidance uses a very broad definition of group health plan for QSEHRA eligibility, meaning that absolutely no other health coverage can be sponsored or endorsed by the employer or controlled group member. For example, even limited health coverage, such as vision, dental, or health indemnity (e.g., cancer, hospital indemnity, etc.) or an employee assistance plan, would invalidate the QSEHRA. Presumably, after-tax payroll deducted coverages may continue as long as the coverage is not endorsed or funded by the employer (see No. 4 below).
- The employer cannot pay for or endorse (to the point of being an ERISA-covered benefit) any individual health or medical insurance benefit (even coverage funded by the QSEHRA). Department of Labor regulations define the circumstances under which employer involvement is sufficiently limited so that an arrangement is considered “voluntary” and, thus, not a group health plan. Care should be taken so as not to cross the endorsement line.
- All full-time employees must be provided the same benefit to satisfy nondiscrimination rules. Certain limited categories of employees may be excluded from participation, including employees who have not completed 90 days of service, employees who have not attained age 25, and part-time or seasonal employees. In theory, the employer may vary the amount of available benefits based on age and number of family members covered, but this can only be done in accordance with pricing of an insurance policy in the relevant individual market. The rules for making these adjustments are so administratively complex that most employers will choose to merely provide a flat QSEHRA benefit.
- Substantiation requirements apply. The employer is required to have the employee substantiate: (a) that all QSEHRA participants (including dependents for whom a reimbursement is paid) have minimum essential coverage either through the QSEHRA purchased policy or another source; and (b) that an eligible medical expense was incurred.
- Additional tax, reporting and notice requirements apply. QSEHRAs are subject to the Patient- Centered Outcomes Research Institute fee. QSEHRA benefits must be reported on employees’ W-2s. Employers are required to provide employees a written notice describing the QSEHRA benefit.
- The employer must adopt and maintain a QSEHRA-qualified HRA plan document.
- The employer must comply with HIPAA privacy and security requirements if there is any outside administration of the QSEHRA or if the QSEHRA has 50 or more participants (e.g., due to participation by part-time employees).
- State law should be checked to ensure that employer participation with individual medical policy coverage is permissible. Some states consider individual health insurance paid for by employers to be group health insurance. Thus, insurers, brokers and agents working with small employers should carefully consider state-law implications, which might include prohibitions against marketing individual policies to small employers. While many states are revisiting these prohibitions, some states specifically prohibit employers from reimbursing individual premiums. When the federal legislation was passed, about two dozen states had prohibitions, and some states (Minnesota, Oregon and Texas) have cleared the way for QSEHRAs. Given the fluid nature of these provisions, agents and brokers should check with their Departments of Insurance for the latest information.
QSEHRAs offer a potentially attractive approach to employee health coverage for qualifying small employers. However, the numerous limitations and compliance issues mean that this vehicle may not be suitable for all employers. Employers should consult with their advisors as to QSEHRA implications.
The information above is provided for general informational purposes and is not provided as tax or legal advice for any person or for any specific situation.
Aflac herein means American Family Life Assurance Company of Columbus and American Family Life Assurance Company of New York.