What If Your Group Health Plan Discriminates in Favor of HCEs?

This week’s question:

Under the new health reform law, fully insured group health plans are now prohibited from discriminating in favor of highly compensated individuals.  What are the consequences of failing to satisfy these new nondiscrimination rules?

Under PPACA section 1001, the nondiscrimination requirements in section 105(h) of the Internal Revenue Code of 1986 (“Code”) that previously applied only to self-insured group health plans now generally apply to insured group health plans.  Code section 105(h) imposes complex requirements that prohibit self-insured group health plans from discriminating in favor of highly compensated individuals (e.g., the highest paid 25% of employees) with respect to the eligibility for benefits or the specific benefits provided.  Violations of these requirements result in the taxation of some or all of the benefits provided to highly compensated individuals (Code section 105(h)(7)), and can also result in draconian tax penalties under the nonqualified deferred compensation rules of Code section 409A in the case of retiree benefits.

PPACA section 1001 applies the eligibility and benefit nondiscrimination requirements of Code section 105(h) to insured group health plans, and incorporates the definition of highly compensated individual from section 105(h).  PPACA does not, however, directly amend Code section 105(h), and does not specifically incorporate the benefit inclusion rules of Code section 105(h).  Instead, these new rules are added as new section 2716 of the Public Health Service Act (“PHSA”), and also are incorporated into chapter 100 of the Code (the group health plan requirements) as new Code section 9815 and into the group health plan rules in part 7 of the Employee Retirement Income Security Act of 1974 (“ERISA”) as new ERISA section 715.

It appears that violations of these new nondiscrimination rules will result in a $100/day excise tax under Code section 4980D that applies to violations of the chapter 100 group health plan requirements.  As of January 1, 2010, there is a new reporting requirement (Form 8928) that requires an employer to report any violations of Code sec. 4980D and to pay associated excise tax to the IRS.  Note, however, that there is a small employer exception under Code section 4980D(d), which provides that an employer who employs an average of 2-50 employees during the preceding calendar year is not liable for this tax.  The ERISA remedial rules also would likely be available to participants (e.g., a participant might be able to sue to enjoin a plan from discriminating in favor of the highly paid).  

These new rules are effective for plan years beginning on or after September 23, 2010, or beginning in 2011 for calendar year plans.  Grandfathered plans are not subject to this new provision.  Therefore, existing plans and policies that cover highly compensated individuals should not be considered discriminatory as long as they remain grandfathered.

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