Recently, the IRS has been issuing 226J letters for the 2016 tax year. IRS Letter 226J is the penalty letter sent to employers who did not comply with the employer mandate under the Patient Protection and Affordable Care Act (ACA) in their offers of health coverage to employees. Frequently these penalties can be in the hundreds of thousands to millions of dollars. However, with the advice of counsel, you may be able to reduce, if not eliminate, the penalties, and changes can be made to avoid penalties in future years. It is important to note that while the individual mandate has been eliminated effective Jan. 1, 2019, by the current administration, the employer mandate still applies.
The employer mandate under the ACA requires that Applicable Large Employers (ALE) (those with 50 or more full-time employees or full-time employee equivalents) are required to offer minimum essential coverage to at least 95 percent of their employees, including their dependents (but not spouses). The coverage offered must also provide minimum value and be affordable to avoid the ACA penalties. Each of these determinations regarding ALE status and whether the coverage offers minimum essential coverage and minimum value are technical, and the company should consult an outside expert. If the employer mandate is not met, the employer will be subject to IRS 4980H penalties, known as the Employer Shared Responsibility Payments (ESRPs), which are detailed in 226J letters.
There are two types of ESRP penalties, subsection (a) and subsection (b) penalties. Subsection (a) penalties are assessed if the company did not offer minimum essential coverage to at least 95 percent of their full-time employees and dependents and at least one full-time employee obtained a premium-tax credit to purchase coverage on the exchange. If this occurs, then each month in which at least one employee received a tax credit, a penalty is assessed based upon the total number of full-time employees of the employer. If, however, the employer did offer coverage to 95 percent of its full-time employees, it may still be liable for subsection (b) penalties. The penalty applies if a full-time employee received a tax credit and that employee was not offered coverage, the coverage offered was not affordable, or the coverage did not meet minimum value. Subsection (b) penalties are much lower and are based only upon the number of employees who received a tax credit for the month.
How to respond
So if you receive one of these letters, what should you do? The most important thing to do is to make sure to provide a timely response. Therefore, look on the first page for the response date listed on the right-hand column. This date should be 30 days after the letter is issued. You can request a 30-day extension by contacting the 4980H Response Unit using the telephone number provided on the first page of the letter. It is vital that a response is provided by this date, as the IRS will issue a Notice and Demand after that date, which can be subject to lien and levy enforcement actions.
The next step is to quickly contact benefits counsel and the benefits advisor or firm you used for ACA reporting (filing of 1094-C with the IRS and providing 1095-Cs to the individual employees). These entities will need to help you gather the data necessary to evaluate and respond to the letter.
The following are some questions to consider in working with your service providers to respond to the letter:
- Was a corrected Form 1094-C filed with the IRS for the 2016 year, and if so, is the IRS using the corrected data? In some instances, an employer has filed corrected forms, but the IRS based the 226J off of the original form. Once the corrected form was brought to the attention of the IRS, the issues were resolved.
- Is the plan at issue a calendar year plan? If not, there is some transition relief that may be applicable to reduce or eliminate penalties.
- Was minimum essential coverage offered to at least 95 percent of full-time employees during each calendar month of the year? If not, check whether each person listed on the chart calculating the penalty in the 226J letter was in fact a full-time employee. Also note that the IRS defines a full-time employee as someone who works an average of 30 hours per week or 130 hours per month using the monthly measurement method or the look-back measurement method.
- If minimum essential coverage was offered to 95 percent of full time employees, did the coverage provide minimum value and was it affordable?
- Do any of the affordability safe harbors apply?
- For any person who received a premium tax credit for the month, was he or she in fact a full-time employee and was he or she in a limited non-assessment period?
Many of these questions are complex, and consultation with an expert is likely necessary. The attorneys in our Employee Benefits practice group can help employers navigate this process with the best possible results.