Many businesses recently received a rebate from their health insurance company. Did yours? If it was a medical loss ratio rebate, do not spend it elsewhere until you understand your legal obligations on how to distribute that money, or whether it needs to be distributed at all. The answers are not as complex as you might expect.
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Medical Loss Ratio Rebates
The Patient Protection and Affordable Care Act (ACA) requires health insurance companies to spend a certain percentage of premium on providing medical benefits and quality-improvement activities. Insurance companies in the large-group market (employers with at least 100 employees) must spend at least 85% of premiums on medical benefits and quality-improvement activities. Insurance companies in the small-group and individual markets (employers with less than 100 employees) must spend at least 80% of premiums on medical benefits and quality-improvement activities. If an insurance company does not meet these standards, it is required to issue a rebate to its policyholders; this rebate is referred to as a Medical Loss Ratio Rebate (Rebate).
Who Owns the Rebate?
It depends on whether the Rebate is a “plan asset”. If the plan or a trust is the policyholder, the Rebate generally will be considered a plan asset and must be used for the benefit of plan participants. If the plan language can be fairly read to provide that some or all the Rebate belongs to the employer, then the employer may retain such amount and use it for any purpose.
For cases where the plan is silent or the language is unclear, Department of Labor (DOL) guidance states that employers should look to the premium cost-sharing arrangement under the health plan for the year to which the Rebate relates to determine whether the rebate is owned by the plan, the employer, or both. According to the DOL guidance:
- If the premium is paid entirely out of trust assets, the entire Rebate will be considered a
- plan asset;
- If employees paid the entire cost of insurance coverage, the entire Rebate is a plan asset;
- If the employer pays the entire cost of insurance coverage, the entire Rebate is not considered a plan asset;
- If the employer and enrollees both contributed a percentage of the cost of insurance coverage, the Rebate is a plan asset to the extent attributable to enrollee contributions and the balance is not a plan asset and may be retained by the employer.
How Should the Rebate Be Used?
If the Rebate is a plan asset, it cannot be kept by the employer or used to pay corporate expenses. Instead, the Rebate must be used, consistent with DOL guidance, in the following manner:
- Distributed in cash to participants;
- Used to reduce the participants’ portions of future premiums; or
- Used to enhance benefits under the plan, such as the addition of a wellness program, dental, or vision benefits.
The DOL guidance suggests that cash distribution of a Rebate that is a plan asset is the preferred method, and that such amounts should be distributed to those who generated the Rebate. However, the DOL guidance gives plan fiduciaries flexibility to apply Rebates toward future premiums or benefit enhancements if they deem it appropriate to do so because (1) the cost of distributing the rebate as cash is too high or burdensome, (2) the amounts to be distributed would be “de minimis,” or (3) if a cash distribution would result in adverse tax consequences to rebate recipients. Regardless of how a plan fiduciary decides to apply the Rebate, the allocation formula must be “reasonable, fair and objective.”
Administrative costs related to Rebate distribution cannot be deducted from the portion of the Rebate that is considered a plan asset that must be shared with participants.
The DOL guidance does not define “de minimis”, although other rules applicable to insurers define a de minimis amount as a rebate of $20 or less that is owed to the group policyholder. Given the lack of a binding definition, it appears that plans have flexibility to set their own standard, within reason. In setting a de minimis standard, many plans are looking at things like: (1) how much would be distributed to employees after income tax withholding, (2) the cost of mailing the Rebate check, and (3) the administrative costs of manually cutting checks. If a distribution as cash to former participants is not feasible because the amounts are de minimis, the plan fiduciary may allocate such amounts to current enrollees. And if a cash distribution to current enrollees is not feasible because the distributed amounts would be de minimis (or would impose adverse tax consequences), the plan may use the Rebate to offset current participants’ premium payments or to enhance benefits.
The DOL has not defined a “benefit enhancement”. Applying a plain reading of the term suggests that a benefit enhancement would include coverage for items or services not previously covered by the insurance policy that generated the Rebate. Dental, vision, and wellness programs are all examples of products or services that would likely be considered as benefit enhancements. Smoking cessation programs, an employee assistance program, a disease management program, or other programs designed to improve health would likely qualify as benefit enhancements.
Employers may weigh the costs and benefits to the plan, as well as the interests of participants or groups of participants, as long as their methods are reasonable, fair, and objective. However, a Rebate must always be used to benefit those participants covered under the insurance policy with respect to which the Rebate was issued; the Rebate may not be spread among plan participants covered under other policies or coverage options. If an employer finds that the cost of making such distributions to former participants approximates the amount of the proceeds, the employer may reasonably choose to allocate the Rebate among only active participants. Further, if distributions to active participants are not cost-effective because the amounts are very small or the distributions will give rise to tax consequences for participants (which will always be the case if premiums were paid with pre-tax dollars, as discussed below), the employer may instead choose to apply the rebate to Reduce future participant contributions or to enhance plan benefits.
By When Must the Rebate Be Used?
Under the Employee Retirement Income Security Act (ERISA), plan assets, including participant contributions, generally must be held in trust for the benefit of plan participants. However, many group health plans take advantage of an exemption from the trust requirement (and its related audit and reporting requirements) that is available to plans that do not hold such amounts for more than three months. The DOL guidance makes clear that, if such a plan receives a Rebate that is considered a plan asset, the Rebate must be used within three months of receipt in order for the plan to continue to rely on the exemption. Current DOL guidance does not appear to permit a calendar-year plan that receives a Rebate on August 1 to wait until the next plan year begins on January 1 to adjust premiums.
Do These Rules Apply to All Plans?
The Rebate requirements do not apply to self-insured plans. Additionally, special rules apply to plans sponsored by non-federal governmental employers (e.g., state and local governments) and plans not covered by ERISA. For example, non-federal governmental employers may use the Rebate to reduce employee premiums for the upcoming plan year for participants covered under any coverage option offered under the employer’s plan – an option not available for ERISA-covered plans. Further, because the ERISA trust requirement discussed above does not apply to such plans, these employers have more time to decide how they will use any Rebates received from their insurers.
If an employer or employee paid the portion of the insurance premium on pre-tax basis (e.g., through a cafeteria plan), then distribution of the Rebate as cash will generally be taxable, and withholding rules will apply. Additionally, the amount of the Rebate must be reported on a Form W-2 issued to the employee, given that the Rebate distribution generally will be considered a supplemental wage. If the Rebate is used to offset the employee’s share of a premium that is paid on a pre-tax basis, then the employee’s taxable income will increase by the amount of the premium reduction.
Rebates of premiums paid by employees on an after-tax basis are not subject to tax withholding.
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