Are You an “Applicable Large Employer” Required to “Play or Pay” under the ACA’s Employer Mandate and the IRS’ Proposed Shared Responsibility Regulations?
Employment Law Alert Newsletter
February 20, 2013
1. Introduction. In addition to the controversial and much-litigated Individual Mandate, the Patient Protection and Affordable Care Act of 2010 (“ACA”) includes an equally controversial (though not quite as heavily litigated) “Employer Mandate.” The Employer Mandate can be found in new section 4980H of the Internal Revenue Code. See 26 U.S.C. § 4980H (“IRC § 4980H”). Effective for plan years beginning in 2014, “applicable large employers” will face a choice. They must either (i) offer substantially all (at least 95%) of their full-time employees (employees working on average 30 or more hours per week) and their non-spousal dependants “affordable” health insurance providing “minimum essential coverage” and “minimum [actuarial] value” or face potential penalties. If such coverage is not offered penalties apply if any of their full-time employees qualify under the ACA for a premium tax credit or cost-sharing reduction in connection with the purchase of health insurance.
To implement the Employer Mandate, on January 2, 2013, the IRS published its proposed regulations concerning Shared Responsibility for Employers Regarding Health Coverage (“Large Employer Regulations”) in the Federal Register. See 78 F.R. 218. Those regulations affect only those “employers constituting applicable large employers.” See proposed 26 C.F.R. § 54.4908H-2(a), published at 78 F.R. at 218. For 2014, an “applicable large employer” will be one who employed an average of at least 50 full-time equivalent employees on business days during calendar year 2013. 78 F.R. at 221. This means that employers must now start keeping the records necessary to determine whether they will be considered “applicable large employers” in 2014 for purposes of the Employer Mandate.
A determination of the number of employees is crucial to determining whether an employer is an “applicable large employer,” and, therefore, subject to the Employer Mandate. That determination is not simple. The regulations are complex. This article will address (i) how to determine the number of full-time equivalent employees an employer has for purposes of the Employer Mandate; and (ii) what an employer might do to prepare for the 2014 effective date of the Employer Mandate.
2. Determining the Number of Employees. In calculating the number of its employees for purposes of the Employer Mandate, the employer must use the common law definition of an employee. 78 F.R. 221. IRS expressly rejected the use of any other definition, such as the definition of employee under the Fair Labor Standards Act. Id. Expressly excluded from the calculation of the number of employees, however, are those whose roles vis-à-vis the employer are limited to that of (i) sole proprietor, (ii) partner in a partnership; and (iii) 2-percent (or more) S-corporation shareholder. Id. However, to the extent that a sole proprietor, partner or shareholder provides services as an employee to the employer, he or she is an employee with respect to his or her hours of service as an employee. Id.
To determine whether it constitutes an “applicable large employer” in 2014, the employer must calculate the actual hours worked by all (both full- and part-time) employees during 2013. 78 F.R. at 221. A full-time employee is one who has provided on average at least 30 “hours of service” per week. IRC § 4980H(c)(4). IRS uses the phrase, “hours of service,” rather than, “hours worked,” so that periods for which an employee was entitled to payment even if work was not done (e.g., vacation, paid leave) are included in the calculation. 78 F.R. at 223. Additionally, an employee providing 130 hours of service during a given month will be deemed to have provided 30 hours of service per week during that month. Id.
The determination whether hourly employees constitute full-time employees is fairly simple. The employer need only total (i) the number of hours the employee actually worked and (ii) the hours during which work was not performed but for which the employee is entitled to payment. 78 F.R. at 223-24.
The determination whether employees paid on a non-hourly basis are a full-time employees is more complicated. To be sure, employers may simply use the “hours-worked” method utilized for hourly employees. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(A), published at 78 F.R. at 243. However, employers may also utilize two other methods. The first is the “days-worked equivalency method” whereby the employee is credited with 8 hours of service for each day for which the employee would be required to be credited with at least one hour of service. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(B), published at 78 F.R. at 243-44. The second is the “weeks-worked equivalency method” whereby the employee would be credited with 40 hours of service for each week for which the employee would be required to be credited with at least one hour of service. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(C)(i), published at 78 F.R. at 244. The hours worked, days-worked equivalency method and the weeks-worked equivalency methods are the only methods an employer may use to determine whether an employee is a full-time employee. See proposed 26 C.F.R. § 54.4980H-3(b)(2).
An employer may employ different methods of determining full-time status for different classes of non-hourly workers as long as the separate classification of employees is reasonable and applied consistently. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(C)(ii), published at 78 F.R. at 244. Similarly, different employers within the same controlled group may apply different methods for determine whether a class of employees is full-time, as long as the classification of the employees is reasonable and applied consistently. Id. Under no circumstances, however, may either the days-worked equivalent method or the weeks-worked equivalent method be used if doing so would understate the amount of hours a non-hourly worker worked. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(C)(iii), published at 78 F.R. at 244.
IRS offers as an example of the misuse of the days-worked equivalency method the application of the method to an employee who works three 10-hour days per week. See proposed 26 C.F.R. § 54.4980H-3(b)(2)(C)(iii), published at 78 F.R. at 244. Application of the days-worked equivalency method would result in a determination that the employee works only 24 hours a week, because the employer need only credit the employee with 8 hours of service per day. As a result, the employees’ hours of service will be understated and the employee treated as a part-time employee not providing on average 30 hours of service per week. To avoid such a result, IRS recommends application of the hours-worked method or the weeks-worked equivalency method (which would result in the employee being credited with 40 yours of service) in cases where an employee works fewer than five days a week, but for more than 8 hours a day. Id.
Although the ACA does not require employers to offer health insurance to employees who are not full-time employees, the determination whether an employer is an “applicable large employer,” requires the consideration of the hours of service performed by less than full-time employees to obtain the number of full-time equivalents (or FTE’s). See IRC § 4908H(c)(2)(E); 78 F.R. 222; proposed 26 C.F.R. § 54-4908H-2(c), published at 78 F.R. at 243. This means that employers must also start keeping records for hours of service performed by part-time employees during 2013 to determine whether they will be deemed “applicable large employers” in 2014. Each FTE will be counted as one employee for purposes of the “applicable large employer” determination. 78 F.R. 222. The number of FTE’s is determined on a month-by-month basis. For 2014, therefore, the number of FTE’s will be determined by (i) calculating for each month of 2013 the aggregate number of hours worked by each employee (up to 120 hours) who did not work an average of at least 30 hours per week during the month and (ii) dividing the total number of hours by 120. 78 F.R. 222-23. The result is the number of FTE’s for that month. Id. For example, if an employer has six part-time employees who worked a total of 600 during a given month, they will be deemed to constitute 5 FTE’s (600 hours divided by 120). The number of FTE’s for a given month is then added to the number of full-time employees for the same month to determine the total number of an employees for the month.
After determining the total number of employees for each month of 2013, the “applicable large employer” analysis requires a calculation of the total amount of full-time equivalent employees for the year. That total is obtained by adding the total number of employees for all twelve months of 2013 and dividing that total by 12. See proposed 26 C.F.R. § 54.4908H-2(b)(1). The result will the total number of full-time equivalent employees for 2013, and will determine whether an employer is an “applicable large employer” as of January 1, 2014. Id. If the employer is deemed to have 50 or more full-time equivalent employees during 2013, the employer will be deemed an “applicable large employer” for 2014. See proposed 26 C.F.R. § 54.4980-2(b), published at 78 F.R. at 242.
In determining the number of FTE’s for a given month, fractions are considered. 78 F.R. at 223. For example, an employer could have 10.5 FTE’s for a given month. However, when the total number of employees for the year is determined, fractions are ignored. See proposed 26 CFR § 54.4980H-2, published at 78 F.R. at 242. In other words, if the division of the total number of employees (full-time and FTE’s) by 12 results in a fractional number, the fraction is ignored. Id. For example, if the division of the total number of full-time equivalent employees by 12 results in 49.9 employees, the fraction is ignored and the employer is deemed to have only 49 full-time equivalent employees. 78 F.R. at 223. Under those circumstances, the employer would not be an “applicable large employer” for purposes of the Employer Mandate. Id.
3. Controlled Groups and Aggregation Issues. All entities treated as a controlled group under IRC § 414 will be treated as a single employer for purposes of the “applicable large employer” determination. 78 F.R. at 221. In other words, the full-time equivalent employees of all members of the controlled group are aggregated to determine whether the group constitutes a single “applicable large employer.” Id. IRS has reserved on the applicability of the controlled group aggregation rules to government entities, churches or convention associations of churches. See proposed 26 C.F.R. § 54.4980-2(b)(4), published at 78 F.R. at 243. Pending the issuance of regulations, those employers may rely on reasonable good faith interpretations of IRC § 414 in determining whether a person or a related group of persons is an “applicable large employer” for purposes of the Employer Mandate. 78 F.R. § 221.
4. Special Rules for Certain Groups of Employees
A. Foreign Employers and Employees. Hours worked outside the United States do not constitute hours of service for purposes of the Large Employer Regulations. 78 F.R. at 224. However, hours worked within the United States constitute hours of service for purposes of those regulations. Id.
B. Successor Employers. Pursuant to IRC § 4980H(c)(2)(C)(iii) a determination of “applicable large employer status” includes predecessor employers. IRS has not issued regulations for identifying predecessor and successor employers for the “applicable large employer” determination. 78 F.R. at 222. However, IRS anticipates utilizing its current employment tax regulations as a basis for those regulations and invites comments from the public. Id. Pending the issuance of those regulations, employers may rely on reasonable, good faith interpretations of statutes on predecessor (and successor employers) in determining whether they are “applicable large employers. Id.
C. New Employers. Employers not in existence as of January 1, 2013, will be deemed to be “applicable large employers” during 2014 if they can be reasonably expected to employ at least 50 full-time employees (taking into account FTE’s) on business days during 2014 and, in fact do so. See proposed 26 C.F.R. § 54.4980H-2(b)(3), published at 78 F.R. at 243. IRS has, however, invited comments on safe harbors or presumptions to assist new employers in determining whether they are “applicable large employers.” 78 F.R. at 222.
D. Seasonal Workers. Seasonal workers are included in a determination whether an employer is an “applicable large employer,” but are then excluded if certain requirements are met. See IRC § 4908H(c)(2) and proposed 26 C.F.R. § 54.4980H-2(b)(2), published at 78 F.R. at 243. If an employer’s workforce exceeds 50 full-time equivalent employees for 120 days or fewer during a calendar year and the employees in excess of 50 who were employed during that period of no more than 120 days were seasonal workers, the employer is not an “applicable large employer.” IRC § 4980H(c)(2)(B)(ii). To determine whether it is eligible for the “seasonal employee” exception, the employer may rely on either a period of four months (which need not be consecutive) or 120 days (which also need not be consecutive). 78 F.R. at 222. In IRC § 4980H(c)(2)(B)(ii), IRS relies regulations issued by the Secretary of Labor for a definition of seasonal worker, which include, among others, retail workers hired exclusively during holiday seasons and migrant agricultural workers. 78 F.R. at 222. IRS has recognized that the category of seasonal workers should not be limited to those categories of workers and plans to issue further guidance on the issue. Id. In the meantime employers may rely on reasonable and good faith interpretations Department of Labor regulations and standards in determining whether their workers are seasonal workers. Id.
5. Conclusion. IRC § 4908H and the Large Employer Regulations present employers at the 50-employee level with both challenges and opportunities.
For the small employer with fewer than 50 full-time equivalent employees that is expanding but may not have adequate funds to offer affordable health insurance providing minimum essential coverage and minimum actuarial value, it may be prudent to either hire part-time employees or utilize staffing agencies to minimize the number of employees. Those solutions, however, are not without limitations and risks. Relying on part-time or temporary workers may not be feasible or prudent. Moreover, IRS will be scrutinizing employer’s use of part-time workers and staffing agencies to ensure that employers are not circumventing the Employer Mandate. 78 F.R. at 230.
In its guidance to the Large Employer Regulations, the IRS advises of its awareness of “various structures being considered under which employers might use temporary staffing agencies (or other staffing agencies) purporting to be the [employee’s] common law employer to evade [the Employer Mandate].” Id. Specifically, IRS will be carefully scrutinizing the use of staffing agencies to disguise the full-time nature of an employee’s employment. Id. Red flags will include: (i) obtaining the services of a single temporary employee from two different staffing agencies to disguise the fact that the employee is, in fact, providing at least 30 hours of service per week to the employer; and (ii) hiring an employee on a part-time basis and obtaining additional services from the same employee from a staffing agency to again disguise the employee’s status as a full-time employee. Id. IRS advises that the final Large Employer Rule will likely include anti-abuse provisions designed to prevent the circumvention of the Employer Mandate. Id.
Like smaller employers, larger employers may wish to reduce the number of their full-time equivalent employees below 50 to avoid the Employer Mandate. However, large employers would face the same problems with relying on temporary or part-time employees as would smaller employees. Additionally, IRS has indicated that it will be scrutinizing sudden dips in the total number of employees below 50.
In sum, it may be possible for employers to avoid the Employer Mandate. However, employers must act carefully in doing so. Moreover, they must act quickly. The time to prepare for the January 1, 2014 effective date of the Employer Mandate began on January 1, 2013.
For additional information or questions please contact Christine A. Amalfe, Chair of the Gibbons Employment & Labor Law Department at (973)596-4829 or email@example.com or David N. Crapo, Counsel to the Gibbons Financial Restructuring & Creditors’ Rights Department at (973) 596-4523 or firstname.lastname@example.org.