The IRS recently released a second notice addressing the excise tax on high-cost health plans — also known as the Cadillac tax. The Affordable Care Act (ACA) added the 40% nondeductible excise tax, which will start in 2018 and be levied on the amount by which the aggregate cost of employer health coverage exceeds the statutory limits. The thresholds start at $10,200 for self-only coverage and $27,500 for other-than-self-only (family) coverage, and will be indexed after 2018.
Notice 2015-52 is intended to supplement Notice 2015-16, which defined applicable coverage and explained how to determine its cost. Notice 2015-52 addresses who will pay the tax, the aggregation rules, exclusion of excise tax payments from the cost of applicable coverage, age and gender adjustments to the dollar limit, how the tax is allocated among applicable taxpayers and payment. It also addresses some unresolved issues regarding the cost of applicable coverage.
Comments on Notice 2015-52 are due by October 1, and proposed regulations are expected following the receipt and review of the comments by the IRS.
Under the tax code, all coverage providers must pay the excise tax on the applicable share of excess benefits provided to an employee for any taxable period. “Applicable share” means the amount that bears the same ratio to the amount of such excess benefit as (A) the cost of applicable coverage provided by the provider to the employee during that period bears to (B) the aggregate cost of all applicable coverage provided to the employee by all coverage providers during that period. The tax code defines “coverage provider” as follows:
Notice 2015-52 provides two alternative approaches to identifying the “person that administers the plan benefits.” Under both approaches, the “person” will generally be an entity rather than an individual.
Under the first approach, the coverage provider would be the entity responsible for performing day-to-day administration of plan benefits, including processing claims and responding to inquiries. For self-insured benefits, this generally would be a third-party administrator (TPA).
Under the second approach, the entity administering plan benefits would be whoever has ultimate authority or responsibility for benefit administration (including final decisions on administrative matters, such as final claims determinations). In this case, identification could be based on plan terms and often would not be the entity performing day-to-day administrative functions.
The IRS has requested comments on the types of administrative functions that should be considered under the first approach and on whether both approaches would make the administrator easy to identify. Finally, the IRS has requested comments on how to apply these approaches to collectively bargained multiemployer plans.
Members of a controlled group are treated as a single employer for purposes of the excise tax, and the IRS has asked for comments on applying the aggregation rules in identifying the following:
- Applicable coverage taken into account as made available by an employer
- Employees taken into account for the age and gender adjustment, as well as the adjustment for employees in high-risk professions or who repair and install electrical or telecommunications lines
- Taxpayer responsible for calculating and reporting the excess benefit
- Employer liable for any penalty for failure to properly calculate the excise tax
Cost of applicable coverage
Notice 2015-52 discusses the taxable period, the determination period, the exclusion of the excise tax amount from the cost of applicable coverage, allocation of contributions to account-based plans and the tax treatment of excess contributions.
Taxable and determination periods
The IRS anticipates that, for purposes of the excise tax, the taxable period will be the calendar year for all taxpayers, even for non-calendar-year plans. The determination period — the period of time for calculating any excise tax liability — would begin soon after the taxable period ends. The IRS has asked for comments on this approach.
The IRS also anticipates that different plans will have different timing issues. In self-insured arrangements, for example, the time required to calculate excise tax liability will depend on when the employer knows the cost of applicable coverage — whether it’s before, at the beginning or at the end of the taxable year (including any subsequent run-out period for claims). To accommodate various timing issues, the IRS requested comments on how long it will take to calculate and allocate excess benefits subject to the excise tax.
Excluding amounts attributable to the excise tax
The notice addresses situations in which an employer sponsors a self-insured group health plan but a different entity, such as a TPA, is deemed to be the coverage provider and thus liable for the excise tax. In such cases, the employer will likely reimburse the coverage provider for the excise tax amount. Moreover, since the excise tax reimbursement would generally be taxable income, the coverage provider would likely also pass on to the employer any additional income taxes triggered by the payment. Future guidance from the IRS is expected to confirm that excise tax reimbursement should not be included in the cost of applicable coverage.
The IRS is also considering whether to exclude some or all of the income tax reimbursement from the cost of applicable coverage. Given the administrative complexities associated with excluding the income tax reimbursement — due in part to variability in tax rates — the IRS requested comments on feasible administrative methods for doing so. The IRS anticipates that coverage providers could exclude the excise tax and income tax reimbursement only if they are billed separately and properly identified as attributable to the excise tax.
The notice also proposes a formula (and provides an example) for calculating the income tax reimbursement, which is similar to the formula used to calculate tax gross-ups, and describes two potential approaches for applying it. The first approach uses the coverage provider’s actual marginal tax rate in the formula, while the second approach uses a standard marginal tax rate based on typical marginal tax rates applicable to health insurance issuers.
Allocation of contributions to health savings accounts, health flexible spending accounts and health reimbursement arrangements
For purposes of the excise tax, the term “applicable coverage” includes coverage under certain HSAs, health flexible spending accounts (FSAs) and health reimbursement arrangements (HRAs). Furthermore, since the excise tax determination is made on a monthly basis, costs for these account-based plans must be allocated on a monthly basis as well.
The IRS is contemplating an approach under which contributions to such account-based plans would be allocated on a pro rata basis over the plan year. For example, an employer’s $1,200 HSA contribution for the plan year would be allocated as $100 per month (regardless of when the employer actually made the contribution). The IRS requested comments on this approach, as well as any suggested alternatives.
Determining cost of applicable coverage under health Flexible Spending Accounts with flex credits
Notice 2015-52 confirms that the cost of applicable coverage for a health FSA would be the greater of the amount of an employee’s salary reduction or total reimbursements from the FSA. The notice then provides that, when determining the cost of applicable coverage for nonelective employer flex credits, the cost of the flex credit would be the amount of the reimbursement in excess of the employee’s salary reduction. For example, assume that an employee contributes $1,000 to the health FSA, the employer provides a $500 nonelective flex credit and the employee’s reimbursed medical expenses total $1,200. The cost of applicable coverage would be $1,200 (not $1,500).
The IRS is proposing a safe harbor for health FSA carryovers that would avoid the double counting of employee salary reduction amounts from one year to the next. Under the safe harbor, the cost of applicable coverage for the plan year would equal the employee’s salary reduction amount for that year, disregarding any carryover. For example, if an employee contributed $1,200 to the health FSA, then the cost of applicable coverage would be $1,200, regardless of whether the employee used the entire $1,200. Likewise, if the employee carried over $500 in unused funds to the following year but did not elect any new salary reduction, then the cost of applicable coverage for the next year would be $0. The IRS is also contemplating a variation that would allow a health FSA with employer flex credits to be valued under this same safe harbor approach.
Inclusion in applicable coverage of excess reimbursements
Under tax code Section 105(h), amounts considered “excess reimbursements” are taxable to highly compensated employees. Although these excess reimbursements currently may be excluded from the cost of health coverage reported on Form W-2, they would not reduce the cost of applicable coverage subject to the excise tax under Notice 2015-52. The IRS anticipates amending Notice 2012-9 (which provides guidance on the ACA’s W-2 reporting requirement) to include excess reimbursements in the W-2 reporting requirement as well as revising the form and instructions accordingly.
Age and gender adjustments to excise tax thresholds
Notice 2015-16 discussed the various adjustments to the 2018 thresholds, including the upward adjustment based on age and gender. Under Notice 2015-52, the adjustment would increase the dollar thresholds by the age/gender difference between the employer’s workforce and the national workforce, using the Blue Cross/Blue Shield standard benefit option under the Federal Employees Health Benefits Plan (FEHBP) as the comparison point. The FEHBP premium for the age/gender of the employer’s workforce (the employer’s premium cost) would be compared to the FEHBP premium for the age/gender of the national workforce (the national premium cost). The age and gender adjustment is determined separately for self-only coverage and family coverage.
To establish the age and gender characteristics of the national workforce, the IRS proposes to use the Current Population Survey (Table A-8a, Employed Persons and Employment-Population Ratios by Age and Sex, Seasonally Adjusted), which is published annually by the Bureau of Labor Statistics. The IRS asked for comments on using the Current Population Survey and whether other sources should be considered.
The IRS is also considering requiring employers to use the first day of their plan year as a snapshot date for determining age and gender for the plan year. The IRS requested comments on this approach, including whether employers should be able to use a different date (and, if so, why it would result in a more accurate representation). The IRS does not plan to allow employers to vary the date from one year to the next.
The notice suggests that the IRS will publish adjustment tables to simplify the calculation of the age and gender adjustment. Notice 2015-52 requested comments on a seven-step approach in developing these tables, in addition to whether such approach should take into account the age rating scale adopted in the regulations for the individual and small group market. All adjustments and calculations would be determined separately for self-only and family coverage.
Notice and payment of the excise tax
Employers are required to calculate the excess benefit subject to the excise tax and to notify the IRS and each coverage provider. The IRS is considering both the form and the time frame for providing the information, and is asking for comments on potential administrative issues. The IRS anticipates that there could be calculation errors that might affect multiple coverage providers and requested comments on avoiding or at least mitigating reallocations.
For payment of the excise tax, the IRS is contemplating using Form 720, Quarterly Federal Excise Tax Return. Although Form 720 is filed quarterly, the IRS would designate a specific quarter for paying the excise tax.
Notice 2015-52 (similar to Notice 2015-16) does not provide guidance upon which taxpayers may rely. For now, the notice is helpful to get a sense of the IRS’s leanings regarding the administration and calculation of the excise tax, and to submit comments that might help shape the proposed and final rules.