ADVISORY EMPLOYEE BENEFITS

Transcription

1 ADVISORY EMPLOYEE BENEFITS April 1, 2010 HEALTH REFORM BRINGS MAJOR CHANGES FOR EMPLOYER HEALTH PLANS President Obama signed the final piece of sweeping health care reform legislation this week. The Patient Protection and Affordable Care Act (H.R. 3590) and a companion reconciliation measure (H.R. 4872) (collectively, the Act ) fundamentally change the landscape of health insurance in the group and individual markets. This memorandum provides a brief summary of the provisions that will have the greatest impact on employers. For the first time, most citizens will be required to have health insurance coverage, and large employers that do not provide health coverage might be subject to substantial penalties. States will be required to establish health benefit exchanges through which individuals and employers can purchase coverage. Lower-income individuals will receive premium assistance tax credits and reduced cost-sharing to help them afford the mandated coverage. Employees with higher income will face increased Medicare tax on wages and a new 3.8% Medicare tax on unearned income. The Act also imposes an excise tax on high cost health care plans and requires employer health plans to eliminate annual and lifetime coverage caps and preexisting condition exclusions. EMPLOYER FREE RIDER PENALTY AND COV- ERAGE MANDATES Free Rider Penalty Beginning in 2014, the Act imposes steep penalties on large employers that do not offer minimum essential coverage to their employees. Penalties also apply to employers that offer minimum essential coverage if the coverage is not affordable or does not provide sufficient value to lower income employees. Minimum essential coverage. Any health plan offered by an employer to its employees constitutes minimum essential coverage, unless it provides only accident or disability coverage, liability insurance, workers compen- HIGHLIGHTS Starting in 2010 Plans that provide health coverage to early retirees can claim a temporary tax-free subsidy. Some employers will recognize a financial statement impact from the reduction in tax benefits for the retiree drug subsidy. Starting in 2011 Insured plans, including executive medical plans, will be subject to the same nondiscrimination requirements as self-insured plans. The value of employer health benefits must be reported on employees Form W-2s. Employers must comply with new coverage mandates. The donut hole coverage gap in the Medicare prescription drug benefit will be phased out. Starting in 2013 Employers may no longer deduct retiree drug expenses covered by the federal subsidy. Employers must withhold additional Medicare tax for employees with high wages. Starting in 2014 Employers could face steep penalties if they do not provide minimum essential health coverage. Employers that pay for health coverage must provide vouchers to eligible employees. Insurers and employer plans must report on minimum essential coverage enrollment. Starting in 2018 An excise tax will apply to high-cost health plans. BEIJING BRUSSELS LONDON NEW YORK SAN DIEGO SAN FRANCISCO SILICON VALLEY WASHINGTON

2 sation, coverage for on-site medical clinics, or other similar coverage in which medical benefits are secondary or incidental to other benefits. Minimum essential coverage also does not include the following types of coverage, if provided under a separate insurance policy or contract: limited scope dental or vision coverage, long-term care coverage, coverage only for a specific disease or illness, hospital indemnity or other indemnity insurance, and Medicare supplemental or similar supplemental coverage. Excise tax penalty. A large employer will be penalized if at least one full-time employee obtains coverage through a state exchange and the employee is entitled to a premium assistance tax credit or reduced cost-sharing (as explained below). If a large employer does not offer minimum essential coverage and a full-time employee is entitled to a premium assistance tax credit or reduced cost-sharing, the employer must pay an excise tax equal to $166 (1/12 of $2,000) per month times the number of full-time employees in excess of 30. If a large employer does offer minimum essential coverage, but a full-time employee is entitled to a premium assistance tax credit or reduced cost-sharing because the coverage is not affordable or does not provide sufficient value (as explained below), the employer must pay an excise tax equal to $250 (1/12 of $3,000) per month times the number of full-time employees who are eligible for the premium assistance tax credit or reduced cost sharing. This excise tax may not exceed the excise tax that would apply if the employer did not offer coverage. In addition, no excise tax is due with respect to an employee who receives a free-choice voucher (as explained below). Because an employer s potential liability for the free rider penalty is based on the health care coverage it offers to its full-time employees, the Act makes it even more important for an employer to confirm that it is not treating employees as independent contractors. Definitions of Large Employer and Full-Time Employees. An employer with at least 50 fulltime employees is considered to be a large employer for purposes of the free-rider penalty. Members of a controlled group with an 80% or more common ownership interest are considered a single employer. An employee is considered full-time if he works at least 30 hours per week. The hours of parttime employees are aggregated, and the number of equivalent full-time positions are taken into account. Premium assistance tax credit and reduced costsharing. An employee is eligible for a tax credit and reduced cost-sharing for insurance coverage purchased through a state exchange if the employee s income is between 100% and 400% of the federal poverty line. However, the tax credit and reduced cost-sharing are not available if (a) the employee is covered under an employer plan, or (b) the employee is eligible to be covered under an employer plan that provides minimum essential coverage, unless the plan is not affordable or does not provide sufficient value. Affordable and sufficiently valuable employer plans. For purposes of the free rider penalty, coverage is considered affordable if the employee s required contribution does not exceed 9.5% of the employee s household income. Coverage is treated as providing sufficient value if the plan covers 60% or more of the total allowed costs (the cost of benefits under the plan, including any portion the employee must pay). Free choice vouchers. Certain employees are eligible for free choice vouchers that can be used to purchase health coverage through a state exchange. Beginning in 2014, each employer that offers minimum essential coverage and pays any portion of the cost of the coverage must offer a free choice voucher to each employee who meets the following criteria: (a) the employee s household income does not exceed 400% of the federal poverty line, (b) the employee s required contribution to the employer s health plan would exceed 8% but would not exceed 9.8% of the employee s household income, and (c) the employee is not covered under the employer s plan. (The 8% and 9.8% figures are indexed for inflation after 2014.) The amount of the voucher is the amount the employer would have paid for 2

3 self-only coverage, unless the employee elects family coverage through the exchange, in which case the amount of the voucher is the amount the employer would have paid for family coverage. Coverage Mandates The Act imposes several new coverage mandates on employer-provided group health plans. A grandfathering provision exempts plans that were in effect at the time of enactment from some, but not all, of the mandates. (It is not clear to what extent plans will lose this grandfathered treatment if they are modified after March 2010.) An employer that maintains a noncompliant plan is subject to a civil penalty up to $100 per affected individual per day. Mandates that apply to all plans. All plans (including grandfathered plans) must satisfy the following minimum requirements: No lifetime or annual limits on essential benefits. Lifetime limits will be prohibited for plan years beginning after September 23, Annual limits will still be allowed through the end of 2013, subject to restrictions to be established by HHS. After 2013, limits will still be allowed for benefits that HHS determines are not provided under a typical employer plan. Coverage for children to age 26. Effective for plan years beginning after September 23, 2010, plans that cover dependent children must make coverage available until the child reaches age 26, without regard to whether the child is a full-time student or married. Before 2014, grandfathered plans need not extend coverage to dependents who are eligible for other employer coverage. The premiums for children under age 26 may be paid on a pre-tax basis, without regard to whether the children qualify as dependents for tax purposes. Limited waiting periods and no preexisting condition exclusions. Effective for plan years beginning on or after January 1, 2014, employer plans will not be allowed to impose a waiting period longer than 90 days and no preexisting condition exclusions will be permitted. For enrollees under age 19, no preexisting condition exclusions are permitted for plan years beginning after September 23, Automatic enrollment. Effective after DOL issues regulations, employers with more than 200 full-time employees will be required to provide for automatic enrollment in their health plans. Automatic enrollment in health plans will be similar to automatic enrollment in 401(k) plans: employees will be automatically enrolled at a pre-set level of coverage, but employees will have a right to opt out, and employers will have to provide advance notice to employees of their opt-out rights. Mandates that apply only to new plans. Plans that were not in effect at the time of enactment will have to satisfy additional mandates: Additional coverage mandates. Effective for plan years beginning after September 23, 2010, plans will have to cover certain preventive screenings with no cost sharing. In addition, plans generally will not be allowed to require referrals for OBGYN or emergency services, and plans that cover emergency services will have to provide the same level of coverage inside and outside their networks. Plans will also be required to cover participation in certain clinical trials for treatment of cancer and other lifethreatening diseases. Choice of primary care provider. Effective for plan years beginning after September 23, 2010, plans that require designation of a primary care provider will have to allow participants to choose any participating primary care provider who is available. More rigorous claims procedures. Future DOL regulations will require continued coverage pending the outcome of appeals, and a binding external review procedure following a plan s decision on appeal. In addition, HHS grants will fund state consumer assistance and ombudsman programs to help participants with claims. Plans will have to provide notice of the availability of these programs. Annual cost sharing limits. Effective for plan years beginning on or after January 1, 3

4 2014, annual cost sharing (deductibles, copays, and co-insurance) will be capped at the out-of-pocket maximum for high-deductible health plans. ERISA Preemption The Act does not amend the ERISA provision that preempts state laws relating to employee benefit plans. However, the Act gives the states significant roles in implementing the statute. ERISA would not preempt state laws that merely meet the requirements of the Act and do no more. Whether ERISA preempts any state law that goes beyond what the Act requires is likely to depend on the terms of the state law. INDIVIDUAL MANDATES AND HEALTH EX- CHANGES Individual Mandates Beginning in 2014, most people will pay a penalty if they or any of their dependents do not have minimum essential coverage under an employer-provided health plan, an insured heath plan, or a plan offered by the federal or a state government. The penalty for each month of a failure to obtain the required coverage is based on the individual s income and on average monthly premiums nationwide. Penalties will not be assessed for coverage gaps less than 3 months. An individual is exempt from the individual mandate if he: (a) qualifies for a religious exemption; (b) is not a U.S. citizen, a U.S. national, or a resident alien lawfully present in the U.S.; or (c) is incarcerated. In addition, penalties will not be assessed on certain individuals who cannot afford coverage (generally because coverage would cost more than 8% of income), individuals who are below the federal poverty line, or members of Indian tribes. Health Exchanges To facilitate the purchase of minimum essential coverage, each state must establish an exchange (called an American Health Benefit Exchange ) by January 1, If a state does not establish an exchange, HHS will establish and operate the exchange for that state. Any individual lawfully residing in a state may purchase any health plan offered through the state s exchange for which the individual is eligible. No individual is required to purchase health insurance through an exchange. Plans offered through the exchange must be certified as satisfying qualification criteria established by HHS. Criteria include (a) no marketing practices that discourage enrollment by individuals with significant health needs; (b) sufficient choice of providers; and (c) in-network providers who serve predominantly low-income, medically-underserved individuals. The plans must use a standardized format to present health benefit plan options, and must make information about premiums, deductibles, and co-pays available through the internet and by other means. Although employers are not responsible for establishing or contributing to state health exchanges (except through the free choice vouchers described above), the availability of coverage for employees through a state exchange is likely to affect the structure and cost of employerprovided health care. Initially, only small employers may offer a group health plan through an exchange, and only if the employer offers the plan to all full-time employees. Beginning in 2017, an exchange may permit large employers to offer plans through an exchange if the employer offers the plan to all full-time employees. RETIREE MEDICAL BENEFITS AND MEDI- CARE The Act provides a temporary tax-free payment to plans that offer health benefits to early retirees. The Act also modifies the Medicare prescription drug benefit and makes other changes in the Medicare program that will affect retiree medical benefits. Retiree Medical Benefits Early retiree reinsurance program. The Act creates a temporary reinsurance program for employment-based health plans that cover retirees who are not yet eligible for Medicare. Beginning in June 2010, the program will reimburse 80% of annual health care costs between 4

5 $15,000 and $90,000 for each retiree aged 55 through 64, and for each spouse, surviving spouse, or dependent of an eligible retiree. The $15,000 and $90,000 limits are indexed for inflation. Reimbursable costs include the participant s deductibles and co-payments, but are reduced by discounts, rebates, or subsidies paid to the plan. In order to qualify for the reinsurance program, a health plan must implement cost-saving procedures for chronic and high-cost conditions. The plan must apply to the Secretary of HHS to enroll in the reinsurance program and must document the claims for which it seeks reimbursement. The plan must use the reimbursements to reduce premium costs for the plan sponsor or out-of-pocket costs for participants. The reimbursements are not included in the plan sponsor s gross income. The Act appropriates $5 billion to fund the reinsurance program. The program will end when the funds run out (but not later than January 1, 2014). Retiree health plans sponsored by state and local governments, non-governmental employers, and labor unions all are eligible for the program, as are retiree medical buy-out plans funded through voluntary employees beneficiary associations ( VEBAs ). Since a large retiree medical plan might pay more than $1 billion in health claims for early retirees in a single year, it is unlikely that the $5 billion in funding will last until No Automatic Vesting of Retiree Health Benefits. The Affordable Health Care for America Act (H.R. 3962), which was passed by the House of Representatives last fall, would have prohibited employers from increasing out-ofpocket costs or reducing health benefits for retirees unless a comparable change applied to active employees. This automatic vesting provision was not included in the Act. Accordingly, employers that have reserved the right to amend or terminate their retiree health plans will still be able to do so, subject to the existing restrictions imposed by court decisions. Medicare Loss of deduction for subsidized retiree drug expenses. Under current law, an employer that provides prescription drug benefits to Medicareeligible retirees can collect a tax-free federal subsidy if the employer s drug plan is actuarially equivalent to the standard prescription drug plan under Medicare Part D. The employer is permitted to deduct the full cost of providing the prescription drug benefits, even though the employer receives a federal subsidy for providing those benefits. The Act reverses this treatment and disallows the deduction to the extent of the subsidy received. Although the disallowance does not apply until taxable years beginning after 2012, the change has triggered immediate adverse financial accounting consequences for some employers. It might be possible to offset some of the adverse accounting consequences in later periods by changing the employer s method of providing prescription drug benefits to its retirees. Phase-out of Medicare Part D donut hole. The prescription drug benefit in Medicare Part D has a coverage gap, called the donut hole, for drug expenses that exceed an initial limit ($2,830 in 2010) but do not reach a catastrophic limit ($6,440 in 2010). Under the current Part D program, a participant is responsible for 25% of covered drug expenses (after a deductible) up to the initial limit, and then is responsible for 100% of drug expenses in the donut hole. The Act provides that an individual who is enrolled in a Part D plan and who incurs drug expenses in 2010 that exceed the initial limit will receive a $250 rebate (apparently without regard to whether the individual s uncovered expenses are greater or less than $250). Starting in 2011, the Act requires pharmaceutical manufacturers whose drugs are covered under Part D to provide a 50% discount on brandname drugs and biologics purchased by Part D participants who have reached the donut hole. The Act gradually reduces participants coinsurance percentage for both brand-name and generic drug expenses that exceed the initial limit. By 2020, Part D participants will pay only 25% of covered drug expenses above the initial limit (the same coinsurance percentage that applies to expenses below the limit), so that the donut hole will be fully phased out. Effect of Part D changes on employer plans. If 5

6 an employer currently provides a prescription drug benefit to Medicare-eligible retirees and collects the federal subsidy, the improvements in the Part D program will make it more difficult for the employer to show that its prescription drug program is actuarially equivalent to the Part D benefit. In addition, the loss of the deduction for costs covered by the retiree drug subsidy will reduce the value of the subsidy for employers with taxable income. As a result of these changes, employers that currently offer prescription drug coverage to Medicare-eligible retirees might find it advantageous to enroll their retirees in a Part D plan. Income thresholds frozen for Part B premiums. Under current law, Medicare participants pay higher premiums for medical insurance under Part B if their income exceeds specified dollar thresholds. In 2010, the initial threshold for income-related Part B premium increases is $85,000 for individuals and $170,000 for couples filing a joint return. Greater premium increases apply to individuals and couples whose income exceeds higher thresholds. In general, the modified adjusted gross income reported on a participant s tax return two years previously is used to determine whether the participant is subject to an income-related increase in the Part B premium. For example, a participant s 2008 income is used to determine whether he exceeds the thresholds in effect for Although the income thresholds ordinarily are adjusted for inflation each year, the Act freezes the thresholds at current levels through 2019, exposing a larger number of retirees to the income-related increase in Part B premium. This change will increase costs for employers (or plans) that reimburse retirees full Part B premium. Part D premiums increased for higher-income participants. Under current law, Medicare prescription drug plans waive the monthly Part D premium for certain low-income participants, but they charge the same premium to all other participants regardless of income level. Beginning in 2011, however, the monthly premium for Part D prescription drug coverage will be means-tested, as the Medicare Part B premium is currently. Individuals and couples whose income exceeds specified thresholds will pay higher Part D premiums. Although the income thresholds used to means-test the Part D premium generally are the same as the thresholds used under Part B, the freeze in inflation adjustments under Part B (described in the preceding paragraph) apparently does not apply for purposes of Part D. Employers and plans that reimburse retirees full Part D premium will bear higher costs as a result of the new incomerelated premium increase. Changes in Medicare Advantage payment system. Some employers contract with Medicare Advantage plans to provide health benefits to Medicare-eligible retirees. The Act freezes Medicare s payment rates for Medicare Advantage plans at current levels for Starting in 2012, a new payment system will be phased in that generally will reduce payments to Medicare Advantage plans. Under the new system, the benchmark used to determine payments to Medicare Advantage plans will be a percentage of the local per-beneficiary cost under the Medicare fee-for-service program; the percentage will range from 95% in the highest-cost areas to 115% in the lowest-cost areas. A Medicare Advantage plan that provides care for less than the maximum payment rate will receive a rebate, which the plan can use to provide extra benefits or reduce participants cost-sharing. Highquality plans will also receive incentive payments. ADDITIONAL FEES AND TAXES ON EMPLOY- ERS AND HEALTH PLANS As explained above, the Act eliminates the deduction for retiree drug expenses covered by the federal retiree drug subsidy. The Act imposes a number of other new fees and taxes on employers that sponsor group health plans. In addition, the Act imposes new fees and taxes on insurers and other entities that might pass the fees and taxes on to employers. Excise Tax on High-Cost Health Plans Effective in 2018, employers, plan administrators, and insurers will be subject to an excise tax equal to 40% of any excess benefit provided under an employer-sponsored group health plan. 6

7 An excess benefit is the aggregate amount by which the cost of health coverage in any month exceeds a threshold amount for any employee. For single employer plans, the threshold amount for 2018 will be no less than $10,200 for individual coverage and $27,500 for any other coverage; multiemployer plans will have a threshold of at least $27,500 for all participants. These amounts could increase based on several factors, including increases in the cost of health care, the age and gender characteristics of an employer s workforce, and whether the plan covers employees in high risk professions or certain retirees. For years after 2018, the threshold will be indexed. In general, the cost of coverage under any employer-sponsored group health plan includes the full cost determined under rules similar to those used for COBRA purposes (regardless of whether the employee or the employer pays the premiums). Employer contributions to health savings accounts are also included in the cost of coverage. For flexible spending accounts, cost includes the employee s elective contributions and any reimbursements in excess of the employee s elective contributions. For insured plans, the tax is imposed on the insurer; for self-insured plans, the tax is imposed on the plan administrator; and for health savings accounts and medical savings accounts, the tax is imposed on the employer. Economic Substance Doctrine Codified Under current law, the IRS sometimes challenges the tax benefits claimed for transactions that, in the IRS s view, lack economic substance. Courts have adopted differing standards in applying the so-called economic substance doctrine. The Act seeks to introduce greater uniformity in the application of the doctrine by adopting a statutory test for economic substance. Under the Act, a transaction will be deemed to lack economic substance unless (1) it changes in a meaningful way (apart from Federal income tax effects) the taxpayer s economic position, and (2) the taxpayer has a substantial purpose (apart from Federal income tax effects) for entering into the transaction. Among other related changes, the Act also increases the penalties that apply if a transaction is found to lack economic substance. These changes are likely to prove controversial and costly to taxpayers. The new rules apply to transactions entered into after March 30, Other Fees and Taxes Fees for Research Trust Fund. The Act establishes a Patient-Centered Outcomes Research Trust Fund. To help fund this trust, all accident and health insurance policies (including policies under group health plans) and self-insured health plans are subject to an annual fee of $2 for each covered life; the fee is $1 for plan years ending during fiscal year The fee generally is paid by the insurer or, in the case of a selfinsured plan, by the employer. Special rules apply to multiemployer plans, VEBAs, and multiple employer welfare arrangements. The fee is indexed, and is effective for plan or policy years ending after September 30, 2012, and before September 30, Time for payment of certain corporate estimated taxes. Current law accelerates the payment of corporate estimated taxes due in 2014 for corporations with assets of $1 billion or more. The Act further accelerates these payments. Deduction cap on compensation paid by health insurers. Beginning in 2013, health insurance companies will be able to deduct only $500,000 for compensation paid to any individual in any calendar year. Unlike the $1 million deduction cap for public company officers, the new cap applies to amounts paid to any employee or other service provider: it is not limited to a small group of executives. The new cap does not provide an exception for performancebased compensation. Special rules apply to deferred compensation, with respect amounts deferred in 2010 or later. Annual fees on pharmaceutical manufacturers and insurers. Beginning in 2011, brand-name prescription drug manufacturers and importers will be required to pay an annual fee based on sales in the preceding calendar year. Beginning in 2014, health insurers will be required to pay an annual fee based on the premiums and third- 7

8 party administrative fees they receive. Selfinsured employer plans are not subject to this fee. Tax on medical devices. For sales after 2012, there is a new tax of 2.3% of the purchase price on manufacturers, producers and importers of any taxable medical device intended for use by humans. The new tax does not apply to eyeglasses, contact lenses or hearing aids. PROVISIONS AFFECTING INDIVIDUAL TAX- PAYERS The Act includes several tax law changes that will apply to individuals. Many of the changes are directed at high-income taxpayers. Nondiscrimination rules apply to all employer health plans. Effective for the first plan year beginning on or after September 23, 2010, fullyinsured employer group health plans will be required to comply with the nondiscrimination rules that previously applied only to self-insured plans. Employers will have to review any health insurance arrangements that provide enhanced coverage or benefits to a limited group of employees or retirees, especially supplemental plans or post-termination arrangements for executives, to determine whether they comply with this new requirement. Additional Hospital Insurance tax on highincome taxpayers. Employees now pay a hospital insurance (Medicare) tax equal to 1.45% of all wages earned, and employers pay an additional 1.45% Medicare tax on all wages paid. For wages paid after 2012, the employee portion will be increased by an additional 0.9% if the household received wages in excess of $250,000 (for joint filers) or $200,000 (for all other filers); the employer portion is not changed. Employers must withhold the additional Medicare tax only with respect to employees who earn at least $200,000 in wages from the employer, without taking into account wages earned by the employee s spouse. The Act imposes a similar tax on self-employed individuals. Additional tax on unearned income. No Medicare tax is currently owed with respect to nonwage income. Beginning in 2013, however, unearned (investment) income will generally be subject to a 3.8% Medicare tax for taxpayers whose modified adjusted gross income ( AGI ) exceeds $250,000 (for joint filers), $200,000 (for individual filers), or $125,000 (for couples filing separately). The tax cannot exceed 3.8% of the amount by which modified AGI exceeds the applicable threshold. A similar tax applies to estates and trusts. Distributions from qualified plans are not treated as unearned income subject to the tax. Limit on salary reduction contributions to health FSAs. The Act imposes a $2,500 limit on annual salary reduction contributions by an employee to a health flexible spending arrangement ( FSA ) under a cafeteria plan. The technical explanation prepared by the staff of the Joint Committee on Taxation suggests that the limit also applies to nonelective employer contributions to a health FSA, although the words of the statute provide little support for that conclusion. The limit does not apply to health reimbursement arrangements ( HRAs ). The limit goes into effect for taxable years beginning after 2012 and is indexed for inflation for taxable years beginning after Health account reimbursement of medicines limited to insulin and prescribed drugs. Under current law, health FSAs, HRAs, health savings accounts ( HSAs ), and Archer medical savings accounts ( Archer MSAs ) are permitted to cover the costs of medicines on a tax-free basis, regardless of whether the medicines are prescribed by a physician, and regardless of whether the medicines are sold by prescription or over the counter. The Act modifies this treatment by disallowing tax-free reimbursement of the cost of any medicine unless it is either insulin or a prescribed drug. The definition of prescribed drug is somewhat uncertain, but clearly includes over-the-counter medicines prescribed by a physician. The modification applies to health FSAs and HRAs for expenses incurred with respect to taxable years beginning after 2010, and to HSAs and Archer MSAs for amounts paid with respect to taxable years beginning after Increased penalty for non-medical withdrawals from HSAs and Archer MSAs. Under current 8

9 law, distributions from HSAs and Archer MSAs before death, disability, or the age of Medicare eligibility that are not used for qualified medical expenses are included in gross income and subject to a 10% additional tax. The Act increases the additional tax to 20%, effective for distributions made after December 31, Unreimbursed expenses deductible only in excess of 10% of AGI. Individuals may claim an itemized deduction for unreimbursed medical expenses that exceed 7.5% of their AGI when they compute their regular income tax. In contrast, individuals subject to the alternative minimum tax ( AMT ) may claim the deduction only if their unreimbursed medical expenses exceed 10% of AGI. Beginning in 2013, the 7.5% floor will be increased to 10% for most taxpayers, although until 2017 the 7.5% floor will apply when the taxpayer or spouse reaches age 65. There is no change in the AMT treatment of unreimbursed medical expenses. Expansion of tax incentives for adoption. Current law provides a non-refundable tax credit for qualified adoption expenses, as well as an exclusion from gross income for qualified adoption expenses covered under an employer-provided adoption assistance program. These tax benefits are subject to a dollar limit of $12,170 in 2010, are phased out ratably for taxpayers with modified adjusted gross income between $182,520 and $222,520 in 2010, and sunset at the end of The Act makes the tax credit refundable, increases the dollar limit to $13,170 in 2010, changes the method for indexing the dollar limit and the phase-out for inflation, and delays the sunset for one year until the end of These changes are effective for taxable years beginning after Other Benefit Changes Increase in permissible wellness incentives. Current regulations under the Health Insurance Portability and Accountability Act ( HIPAA ) permit wellness programs under group health plans to offer rewards to individuals who satisfy a health-related standard, as long as the rewards do not exceed 20% of the cost of coverage and the program meets certain other requirements. The Act codifies the rule permitting wellness incentives and increases the percentage to 30% of the cost of coverage, with the possibility of a further increase of up to 50% by the responsible federal agencies, effective for plan years beginning after However, the Act does not amend either the Americans with Disabilities Act ( ADA ) or the Genetic Information Nondiscrimination Act ( GINA ), both of which impose their own independent requirements on wellness programs. Employer accommodations for nursing mothers. The Act requires employers to provide female employees with reasonable break time and private space to express breast milk for nursing babies up to one year after birth. An exception applies to employers with less than 50 employees if the required accommodations impose an undue hardship. These requirements appear to apply immediately upon enactment. Employees protected against retaliation for asserting rights. The Act prohibits employers from retaliating or discriminating against employees for asserting their rights under the Act, including any right to receive a premium tax credit or subsidy for health care coverage. REPORTING AND DISCLOSURE REQUIRE- MENTS The Act imposes several new reporting and disclosure obligations on employers and health plans. Form W-2 reporting. For taxable years after December 31, 2010, employers must report on Form W-2 the aggregate value of employerprovided health insurance (including dental and vision coverage, but excluding health flexible spending accounts). The value to be reported on the Form W-2 is calculated in the same manner as the cost of COBRA continuation coverage. Standardized summaries of benefits and coverage. Effective by March 2012, plans and insurers must comply with new standards for summaries of benefits and coverage. The standards will be developed by HHS. Expanded information reporting for payments to corporations. Current law requires persons engaged in a trade or business to provide Form 1099 to unincorporated entities to which they 9

10 have made payments in excess of $600 during a taxable year. Payments to corporations and payments for goods are generally exempt from the reporting requirements. The Act removes the exemptions for payments for goods and payments to corporations (except for tax-exempt corporations) made after December 31, As a result, companies will be subject to much greater reporting requirements for purchases and leases ranging from office supplies to office buildings. HHS reporting requirements. Starting in March 2012, group health plans and insurers will have to comply with new reporting requirements related to improving case management, care coordination, chronic disease management, wellness and health promotion, and other aspects of health care. Employer annual certification coverage offered. For taxable years beginning in 2013 and later, an employer with more than 50 employees (and smaller employers that offer minimum essential coverage) must certify to their full-time employees and the IRS whether the employer offers minimum essential coverage. The reports will include detailed information about the coverage offered. Insurer and employer plan annual reporting of health insurance enrollment. Starting in 2014, insurers and employer plans that provide minimum essential coverage must file a return with the IRS that includes identifying information for each covered individual and details of the individual s coverage. If the coverage is provided through an employer s group health plan, the return must also include the employer s identifying information and the portion of the premium, if any, that the employer is required to pay. Each individual whose name is included in the return must receive a written statement that includes the identifying information of the entity required to file the return and the information shown on the return with respect to that individual. Disclosure to employees at time of hiring. Not later than March 1, 2013, employers must disclose to employees the existence of the applicable state exchange, describe the services provided by the exchange, and provide contact information for the exchange. In certain circumstances, the notice must also inform the employee that if he purchases coverage through the exchange, he might be eligible for a premium tax credit and a cost-sharing reduction. Other Health Insurance Reforms The Act imposes additional requirements on insurance companies that issue new health plans. Grandfathered plans (plans covering individuals as of March 23, 2010) are not subject to these requirements: Review of unreasonable premium increases. HHS will establish an annual review process for unreasonable increases in health premiums, beginning with the 2010 plan year. Health insurance issuers will be required to justify unreasonable premium increases. Minimum health care expenditure requirement. Starting in 2011, insurers will have to provide rebates if they spend less than a minimum percentage of their premium revenues on clinical services and activities that improve health care quality. In the large group market (covering employers with more than 100 employees), the minimum percentage will be 85%; in the small group market, the minimum percentage will be 80%. States will be allowed to set higher percentages. Individual and small group market reforms. Effective January 1, 2014: Insurance premiums for the individual or small group market may vary only by: (a) family status, (b) rating area (as established by each state), (c) age (but not by more than 3 to 1 for adults), (d) tobacco use (but not by more than 1.5 to 1). These limits apply to large employer plans offered through exchanges except self-insured plans. Each insurer that offers health insurance coverage in the individual or group market in a state must accept every employer and individual that applies for coverage, and the insurer may not refuse to renew or continue such coverage. Each insurer that offers health insurance coverage in the individual or small group market must include an essential health 10

11 benefits package that (a) includes broad coverage of services specified in the Act (as determined by HHS), (b) limits annual costsharing (i.e., deductibles, co-pays, and coinsurance, but not premiums) to the out-ofpocket maximum for high-deductible health plans (which will be indexed after 2014), and (c) covers at least 60% of the value of the benefits (or provides catastrophic coverage to certain individuals). Certain dentalonly plans are exempt from these requirements. Temporary high-risk pool. In addition, within 90 days after the date of enactment, HHS will establish a temporary high-risk health insurance pool program that expires on January 1, 2014 to cover uninsured individuals with pre-existing conditions. Voluntary national long-term care coverage purchased by payroll deduction. The Act creates a federal long-term care insurance program. Under the program, employers could elect to enroll employees automatically and to deduct premiums from their wages. Employees may opt out of the program at any time. The Act provides that the program will be treated for federal tax purposes in the same manner as a qualified long-term care insurance contract for qualified long-term care services. The Act appears to contemplate that the program will begin operating by ADDITIONAL RULES FOR SMALL EMPLOYERS The Act includes special provisions for small employers, including the Small Business Health Options Program and the small business tax credit. Small Business Health Option Program. By January 1, 2014, each state must include in its exchange (or set up a separate exchange to provide) a program to assist small employers to facilitate enrollment of their employees in health plans offered by the exchange. The program for small employers is called a Small Business Health Options Program or SHOP Exchange. For this purpose, a small employer has no more than 100 employees, except that before 2016, a state may elect to limit small employers to those with not more than 50 employees. Small Business Tax Credit. Beginning in 2010, certain small employers are entitled to a tax credit for nonelective contributions to a health plan. Beginning in 2014, the credit is available only if the plan is offered in an exchange. Eligibility. To be eligible for the credit, the employer must employ no more than 25 employees and average annual wages must not exceed $50,000 (indexed after 2013). In addition, the employer must contribute, uniformly, at least 50% of each employee s premiums for a health plan offered by the employer through an exchange. Amount of Credit. The amount of the credit is 50% (or 35%, for tax-exempt small employers) of the lesser of (a) the employer s nonelective contributions for premiums for a health plan offered by the employer through an exchange, or (b) the nonelective contributions the employer would have made if each employee taken into account had enrolled in the average premium for small group market in the rating area. The amount of the credit is phased out for employers with more than 10 employees and for employers with average wages in excess of $25,000 (indexed). In the case of a tax-exempt employer, the credit is limited to the amount of payroll taxes (income tax and FICA withholding) the employer pays each year. Special Rules for In 2010 through 2013, the amount of the credit is 35% (25% for tax-exempt employers) of nonelective contributions for premiums for health insurance, subject to an average premium limit established by HHS. Payment of exchange premiums through cafeteria plans. The Act generally prohibits a cafeteria plan from paying or reimbursing an employee s premiums for health coverage provided through an exchange. An exception applies if the employer maintaining the cafeteria plan is a qualified employer. Subject to certain exceptions, a qualified employer is a small employer that elects to make all of its full-time employees eligible for health coverage provided through an exchange. The rules regulating pay- 11

12 ment of exchange premiums through cafeteria plans apply in taxable years beginning after Streamlined cafeteria plan rules for small employers. The Act seeks to encourage small employers to establish cafeteria plans by streamlining the rules that apply to them. In general, an employer with up to 100 employees may elect to establish a so-called SIMPLE cafeteria plan that provides the tax benefits of a cafeteria plan but avoids some of the administrative complexities associated with sponsoring one. The streamlined cafeteria plan rules apply to years beginning after December 31, MEMBERS OF COVINGTON S EMPLOYEE BENEFITS & EXECUTIVE COMPENSATION GROUP John Vine jvine@cov.com Scott Macey smacey@cov.com Amy Moore anmoore@cov.com Richard Shea rshea@cov.com Julie Edmond jedmond@cov.com Michael Francese mfrancese@cov.com Robert Newman rnewman@cov.com Seth Safra ssafra@cov.com Admitted in CA and NJ, but not DC; supervised by principals of the firm. Katherine Mineka kmineka@cov.com Kendra Roberson kroberson@cov.com Mary DeYoung mdeyoung@cov.com William Woolston wwoolston@cov.com Kathryn Johnson kjohnson@cov.com Jenna Wallace jwallace@cov.com Mike Chittenden * mchittenden@cov.com Christen Sewell * csewell@cov.com * Admitted in MD, but not DC; supervised by principals of the firm The lawyers in Covington & Burling LLP s Employee Benefits & Executive Compensation Group play a leading role in advising and representing employers on employee benefits and executive compensation matters. We frequently appear before Congress, federal agencies, and federal courts to resolve major issues of law, policy, and finance. Our employee benefits practice covers all types of benefit arrangements, including retirement plans, welfare plans, fringe benefits, equity and incentive compensation, and programs for executives and directors. 12

13 EFFECTIVE DATES OF HEALTH REFORM PROVISIONS WITH GREATEST IMPACT ON EMPLOYER PLANS (Some provisions apply to plan years beginning on or after the date shown) & 2018 Mar. 23. Premium increases subject to HHS review. Mar. 23. Adequate time and space for nursing mothers required. Mar. 30. Economic substance doctrine codified. June 21. Temporary tax-free subsidy takes effect for early retiree coverage. Sept. 23. Nondiscrimination rules apply to insured plans. Sept. 23. No lifetime or annual limits on essential benefits. Sept. 23. Dependent coverage for children up to age 26 not eligible for another employersponsored plan. Sept. 23. No preexisting condition exclusions for children under age 19. Sept. 23. Additional coverage mandates and independent claims procedures apply to plans not in effect on the date of enactment. Indefinite. After DOL issues regulations, employers with more than 200 full-time employees must provide automatic enrollment in their health plans. Jan. 1. Medicare prescription drug donut hole begins to phase out. Jan. 1. Minimum health care expenditure requirement takes effect for insurers. Jan. 1. Health accounts can no longer be used to purchase over-the-counter medication. Jan. 1. Increased penalty applies for non-medical withdrawals from HSAs and Archer MSAs. Jan. 1. Income thresholds frozen for Medicare Part B premiums. Jan. 1. Medicare Part D premiums are increased for higher-income enrollees. Jan. 1. Annual fee imposed on brand-name pharmaceutical manufacturers. Jan. 1. Expanded reporting of payments to corporations and payments for goods required on Form Jan. 31. The value of employer-sponsored health benefits for 2011 must be reported on Form W-2. Mar. 1. New health quality reporting required by group health plans and insurers. Mar. 1. Standardized summaries of benefits and coverage required. Sept. 30. New fee on employer-sponsored plan takes effect to fund research trust. Jan. 1. Deductions for the federally subsidized portion of retiree prescription drug benefits are disallowed. Jan. 1. Employee share of Medicare tax increases for higher-income employees. Jan. 1. New Medicare tax on unearned income takes effect. Jan. 1. Lower contribution limits on health FSAs take effect. Jan. 1. Employers required to annually certify health coverage offered. Jan. 1. New $500,000 cap on deductible compensation for health insurance company employees. Jan. 1. Tax on manufacturers, producers, and importers of taxable medical devices takes effect. Jan. 1. Floor on deductible medical expenses is raised to 10% for taxpayers under age 65. Mar. 1. Employers are required to disclose details of exchange to employees. Jan. 1. Penalties apply to large employers that do not provide minimum essential coverage. Jan. 1. Individual mandate takes effect and state exchanges must become operational. Jan. 1. Free choice vouchers become available for certain employees whose employers subsidize the cost of coverage. Jan. 1. Increased incentives for wellness programs permitted. Jan. 1. No preexisting condition exclusions for all enrollees. Jan. 1. No waiting periods in excess of 90 days for employer plans. Jan. 1. Reporting of health insurance enrollment and coverage required. Jan. 1. Limits on costsharing apply to plans not in effect on the date of enactment Jan. 1. Individual and small group market reforms (premiums, guaranteed issue, and coverage mandates) take effect. Jan. 1, Exchanges open to large employers. Jan. 1, Excise tax on high-value employersponsored health plans takes effect. Jan. 1, Ten percent floor on deductible medical expenses applies to all taxpayers Covington & Burling LLP. All rights reserved. 13