06 Jan IRS pinpoints ACA affordability percentage for safe harbor

Original post by Helen Karakoudas, shrm.org

The IRS has announced that the inflation-adjusted percentage used to determine what is “affordable” health coverage for individuals will also apply to the safe harbor for employers.

Under a safe harbor set forth in the Affordable Care Act’s (ACA’s) employer shared-responsibility provisions (also known as “pay or play”), health coverage has been deemed to satisfy the requirement to be affordable if the lowest-cost self-only coverage option available to employees does not exceed 9.5 percent of any one of the following:

• The employee’s W-2 wages.
• The employee’s rate of pay.
• The federal poverty level.

The three-pronged affordability safe harbor is used so that employers have penalty protection for what they declare as “affordable” on Line 16 of IRS Form 1095-C. The safe harbor concept is the standardized way IRS regulations address the fact that employers would not know their employees’ household incomes.

For 2015, the IRS increased the applicable threshold percentage for purposes of “household income” from 9.5 percent to 9.56 percent to account for increases in health insurance premiums and income growth, with a further increase to 9.66 percent announced for 2016. But the IRS did so with regard to the affordability percentage that marketplace exchanges can use to test compliance with the ACA individual mandate. The IRS did not explicitly increase the percentage for use in the employer safe harbor test above the statutory 9.5 percent. That led many benefit attorneys to advise their clients to continue using a contribution percentage of 9.5 percent to measure their plan’s affordability.

While the controversy over the affordability percentage has divided employee benefits attorneys and confused business owners and HR professionals, new guidance clarifying the issue was released on Dec. 16.

According to IRS Notice 2015-87:

Treasury and IRS intend to amend the regulations under § 4980H to reflect that the applicable percentage in the affordability safe harbors should be adjusted … so that employers may rely upon the 9.56 percent for plan years beginning in 2015 and 9.66 percent for plan years beginning in 2016.

Legal Significance for ACA Safe Harbors

The phrases “intend to amend” and “should be adjusted” are key. Before this guidance, there was no official connection between Section 4980H—the ACA regulations in the Internal Revenue Code that detail the employer shared responsibility requirements—and any percentage other than 9.5 percent, which remained the only rate given in ACA regulations for affordability testing.

Though official word about the syncing of the safe-harbor percentage with the marketplace percentage came bundled with end-of-year housekeeping items, hints about a clearing of the fog came this fall:

• In a September webinar of the ACA Information Returns (AIR), the monthly group call for software developers learning about the new IRS processing engine specific to the 1095 series of forms, attendees were told that hard coding for the 9.5 percent affordability percentage for employer returns was being undone and revised for specifications that could be changed from year to year. Further references to this reformatting were also made in the October and November calls.
• On page 11 of the instructions for IRS Forms 1095-C and 1094-C, which also came out in September, there was this paragraph: “References to 9.5 percent in the affordability safe harbors and alternative reporting methods may be subject to change if future IRS guidance provides that the percentage is indexed in the same manner as that percentage is indexed for purposes of applying the affordability thresholds under Internal Revenue Code section 36B (the premium tax credit). In general this should not affect reporting for 2015, but taxpayers may visit IRS.gov for any related updates.”

“Admittedly, the door was open to possible updates. But one would have thought that, by Dec. 16, nothing would change the result for 2015,” said Paul Hamburger, co-chair of the employee benefits and executive compensation practice center for Proskauer Rose in Washington, D.C.

“Now, the [Dec. 16] guidance allows employers, essentially, to [use the inflation-adjusted percentage] for 2015 in measuring affordability even though the instructions and forms are based on 9.5 percent,” he added. “However, with vendors already having programmed their systems with unadjusted numbers, I’m not sure how it will all play out. For example, if an IRS form was completed on the basis of unaffordability at 9.5 percent but it would have been affordable at 9.56 percent, will the IRS review cause a penalty to potentially be imposed, only to be negotiated away once the numbers are put forward? We will see,” Hamburger said.

Premium contribution strategies for 2016 were the concern of Ken Mason of Spencer Fane in Kansas City, Mo. “The recent guidance comes too late to affect ACA-compliance efforts for 2015,” Mason said. “Given the usual open enrollment periods of October or November for calendar-year plans, it’s probably also too late for most calendar-year plans to take advantage of the 9.66 percent figure when setting premiums designed to fall within the ACA safe harbors for 2016.”

The ‘Christmas Present’ Rule

Hamburger also widened the lens for perspective on this news: “Over the years, it seems that year-end IRS guidance with brand-new rules is part of the year-end tradition,” he remarked. “I remember a pension-related notice that came out at the end of 1987 where the IRS issued a somewhat lenient optional tax-related rule and we colloquially referred to it as the ‘Christmas present’ rule. Since then, the IRS seems to always remember the employee benefits community at this time of year.”