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CCH® BENEFITS — 10/19/09

IRS Representatives Address Employee Benefits Issues

From Spencer's Benefits Reports: In a meeting on employee benefits issues raised by the American Bar Association’s (ABA) employee benefits committee section on taxation, representatives of the Internal Revenue Service addressed COBRA, imputing fair-market value to self-insured employer-provided health care coverage, and one-time lump sum cash payments for irreversible waiver of retiree health benefits.

Two of the COBRA situations involved the tax treatment of employer voluntarily continued coverage after COBRA ends for certain beneficiaries, and waiver of the COBRA subsidy.

In the first situation, a self-funded employer continues the health care coverage of the spouses of former highly compensated employees after their COBRA continuation period has been exhausted. The spouses pay the health care coverage premium, the actuarially determined fair market value of the coverage, on an after-tax basis. These benefits are nontaxable to the spouses, the IRS representatives agreed, because the self-insured medical plan is an arrangement having the effect of accident or health insurance and the spouses pay the premium after-tax.

In the second COBRA situation, an employer has a severance plan that includes a subsidized COBRA benefit. A terminated employee concludes that, due to his income this past year, he would have to pay income tax on the COBRA subsidy, so he waives the subsidy. The employer plan provides that, for former employees who waive the COBRA premium subsidy, the plan will provide its own subsidy that is at least of the same value as the COBRA subsidy. In this case, the employer-provided subsidy is excludable from the employee’s gross income as accident or health coverage.

In another situation, an employer applies a 60-day waiting period before hourly employees are eligible for health care coverage, but salaried employees are covered from the first day of employment. However, the employer imputes income tax on the fair market value of the coverage that salaried employees receive during the first 60 days of employment. This arrangement avoids the implications of the IRC Sec. 105(h) nondiscrimination requirements and the benefits that salaried employees receive in the first 60 days remain nontaxable.

The next situation involves an employer that pays employees’ short term disability premiums during a leave of absence. The leave is considered paid leave for purposes of the IRC Sec. 125 election change rules.

In the final situation, a governmental employer plans to offer a one-time lump sum cash payment for retirees who irrevocably waive future retiree health benefits. The lump sum payment will not be made through a Sec. 125 cafeteria plan. The IRS concludes that the retirees who elect the retiree health benefits, not the lump sum cash option, are not subject to constructive receipt just because the individuals are given a choice between nontaxable benefits and cash..

For more information, visit http://www.abanet.org/jceb/2009/IRS2009.pdf..

For more information on this and related topics, consult the CCH Pension Plan Guide, CCH Employee Benefits Management, and Spencer's Benefits Reports.

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