Health Care Nondiscrimination Rules -- What to Do, We All Wish We Knew

PPACA, better known as health care reform, added Section 9815 to the Internal Revenue Code and Section 715 to ERISA, as well as Section 2716 of the Public Health Service Act. It's back to the future we go, or perhaps in the future, we go back to the past.

Confused yet? We all were when Section 89 was added to the Code by the Tax Reform Act of 1986 as well. It took a few years, but the IRS finally gave us Section 89 regulations. The fact that some of you are lost already is testament that Section 89 was repealed shortly thereafter.

But now we have these nondiscrimination rules that apply not just to self-insured health care plans, but also fully insured plans. What does that mean for an employer, or for that matter for an employee? We all wish we knew, but here is my take.

The new law applies the rules of Code Section 105(h) to fully insured plans. And, evidence suggests that Congress will provide the IRS with funds to enforce these provisions.

Problem: Section 105(h) has been around for a long time and nobody is entirely sure how the rules work. The rules are much like the old coverage and nondiscrimination rules for qualified retirement plans that applied pre-1986. Under those, there were generally three coverage tests that an employer could pass, and one of them was so vague as to be ludicrous.

Good news: When the rules under the Internal Revenue Code are so vague as to use words like "reasonable classification" and "fair cross-section", the courts have usually ruled against the IRS. However, we will likely, IMHO, be getting some more detailed rules with tighter wording.

Bad news: If the IRS does publish regulations that are less vague, the courts have shown a pattern of giving deference to IRS regulations and the methods contained therein.

So, what should employers do for 2011 (for calendar year plans, this all applies beginning in 2011)? My observation is that many companies will ignore these new rules until we have some formal guidance from the IRS. While this may turn out to be the winning approach, this would not be my recommendation. In my opinion, companies should establish that they are reasonably complying with these rules. Establish that plans are not more favorable either in coverage or in levels of benefits available for high-paid than for low-paid. Again, when there are no regulations, reasonable compliance with documentation tends to be a winner.

For companies that cannot pass, they need to develop a strategy to satisfy these rules. Once enforcement actually begins, penalties could be harsh. But, before you panic, two types of plans seem to be exempt: those that are considered "grandfathered plans" under PPACA and those of employers who on average employed 50 or fewer employees during the preceding plan year.

Failure appears to subject the plan to an excise tax under Code Section 4980D of $100 per day of failure ... per person. That could be enormous.

For retiree medical plans and perhaps for benefits earned while working for post-employment benefits, failure, by my read, could result in 409A violations.

All of this is bad. Hopefully, regulations will help, or these sections will be repealed ... once again.