- New COBRA Subsidy May "Stimulate" Medical Plan Costs for Employers
- March 30, 2009 | Author: JoAnne Ray
- Law Firm: Adams and Reese LLP - Houston Office
Most employers have heard that the “stimulus bill” signed by President Obama on February 17, 2009, includes a nine-month 65% government-paid COBRA1 subsidy for certain terminated employees. But they may not be aware of the magnitude of the hidden costs that may be imposed on employers as a result of this new COBRA legislation.
This new legislation is part of the American Recovery and Reinvestment Act (“ARRA”) of 2009. The part of ARRA that pertains to the COBRA subsidy is called the Health Insurance Assistance for the Unemployed Act of 2009.
Under the new law, the U.S. government will pay 65% of COBRA costs for employees involuntarily terminated between September 1, 2008, and December 31, 2009. Dependents are also eligible for this subsidy. The subsidy only applies to those employees and dependents who were covered by the employer health plan at the time the employee was terminated. The employer may, but is not required to, allow subsidy-eligible ex-employees to elect, for purposes of COBRA coverage, a medical plan option that costs less than the option that covered them during their employment.2
How the Subsidy Works
Here’s how the subsidy will work if the employer has a COBRA-covered medical plan.
- Effective March 1, 2009, employers must reduce by 65% the COBRA premium that they otherwise would have charged to a qualified ex-employee and her eligible dependents. Employers who do not have procedures in place on March 1 to allow this reduction may charge the usual COBRA premium and then reduce subsequent COBRA premiums in order to cause the individual to reduce the COBRA subsidy he was entitled to effective March 1, 2009. See Section 6432(E) of ARRA for a description of procedures that the employer should follow if its systems will not be ready to grant the COBRA subsidy on March 1, 2009.
- The employer will recover the 65% subsidy by a credit against the payroll taxes it would otherwise owe for current employees.3 This credit will be reflected on Form 941, the employer’s quarterly employer tax return. (The IRS has already revised Form 941 to allow for this credit. This revised Form 941 is available at the IRS’s web site.) The credit may be applied against both the employer and the employee portions of FICA taxes (Social Security and Medicare).4 The credit is effective as of the date the employee pays her 35% share of the COBRA premium and not as of the first day of the month covered by the COBRA premium.5
If an employer’s medical plan is fully insured, and the employer is too small to be covered by COBRA, but applicable state law nevertheless requires that fully insured plans of small employers offer ex-employees a continuation option, then the insurer rather than the employer must advance the 65% subsidy and then deal with recouping the money via a credit to the insurer’s payroll taxes. For more information about how the credit works and a copy of the revised Form 941, visit the IRS web site at. http://www.irs.gov/newsroom/article/0,,id=204708,00.html.
Duration of Subsidy
The subsidy lasts until the shorter of:
- 9 months; or
- until the terminated employee becomes eligible for other group health coverage or for Medicare.
Under the new law, a COBRA beneficiary who receives the subsidy must notify his former employer if, while still receiving the subsidy, he becomes eligible for other group health coverage or for Medicare. If a participant fails to notify the employer of such eligibility, he is subject to a penalty tax of 110% of the subsidy received after he failed to provide the required notice.6
No Subsidy for Those Eligible for Spouse’s Group Health Plan
The new COBRA subsidy is not available to employees for any month beginning after “the first date that such individual is eligible for coverage under any other group health plan.”7 Thus, it is obvious that an ex-employee should not be eligible for a COBRA subsidy if, following his termination, he was eligible for coverage under his spouse’s group health plan. The Department of Labor’s commentary on the new COBRA subsidy makes this clear: “Those who are eligible for other group coverage (such as spouse’s plan) or Medicare are not eligible for other premium reduction.” See http://www.dol.gov/ebsa/COBRA/html. “Eligible” is an important word here. An employee who is eligible for coverage under his spouse’s group health plan but does not elect such coverage during the 30-day special election period following loss of his own employer health coverage should not receive a COBRA subsidy. Moreover, if an ex-employee begins receiving the COBRA subsidy and then becomes eligible for coverage under another group health plan (perhaps through marriage or through a new job), he is required to notify his former employer in writing that he has become eligible for other group health coverage.8
COBRA Continuation Period Unchanged for Most Employees
It is important to note that, for the vast majority of terminated employees, the new COBRA laws do not lengthen the COBRA continuation period. Except in two very limited instances, the COBRA continuation period will remain 18 months.9 The two very limited situations under which the new law extends the COBRA continuation period involve: (1) certain ex-employees eligible for assistance under the 2002 Trade Adjustment Assistance Act (which applies to certain employees who were laid-off because the employer transferred their jobs overseas), and (2) certain ex-employees age 55 to 64 who are enrolled in pension plans taken over by the Pension Benefit Guaranty Corporation. See Section 1899F of ARRA. Even for ex-employees in these two categories, the new COBRA law lengthens the COBRA continuation period only to December 31, 2010. Apparently the reason why Congress gave these two groups of ex-employees a slightly lengthened COBRA period is because, under prior laws, these two groups had already received a 65-percent COBRA subsidy in the form of credits to their income tax liability.
“Second Chance” to Elect COBRA
Employees involuntarily terminated from September 1, 2008 to February 17, 2009 receive a second chance to elect COBRA if they previously did not elect COBRA or if they elected COBRA but then lost coverage due to failure to timely pay their premiums.10 Employees who make a “second chance” COBRA election will not receive any retroactive COBRA coverage.11 However, the usual pre-existing conditions limitations shall not apply to medical conditions for which a qualified individual received treatment between the time of his termination and the time of his “second chance” COBRA election.12 “Second chance” COBRA beneficiaries will still be limited to the same COBRA period (18 months from date of termination for most ex-employees) that would have governed their COBRA rights if they had made a timely COBRA election within 60 days following receipt of their first COBRA election notice. No later than April 19, 2009, employers must provide employees who have been terminated from September 1, 2008, to date with notices describing their “second chance” COBRA rights. See the section below on “Special COBRA Notices Are Required” for further information.
High Earners Must Repay Their Subsidy
The 65% COBRA premium reduction must be offered to all involuntarily terminated and otherwise eligible ex-employees, without regard to how high their income is. However, persons with higher incomes must repay the subsidy to the U.S. government when they file their federal income tax returns.13 Terminated employees with a modified adjusted gross income of $145,000 for single filers and $290,000 for joint filers must repay the entire subsidy. A phase-out of the subsidy begins at a modified gross income of $125,000 for single filers and a modified gross income of $250,000 for joint filers. Employers may allow higher-earning ex-employees to sign a form “opting out” of the subsidy.14
Special COBRA Notices Are Required
Under COBRA, an employer is required to provide notices of COBRA rights to eligible employees upon the occurrence of a ‘qualifying event” such as their employment termination. The new law requires that, no later than April 17, 2009, employers issue revised versions of these notices that describe the subsidy and the “second election” period and provide the revised notices to all individuals who were involuntarily terminated between September 1, 2008 through February 17, 2009.15 As an alternative, the employer may continue to use its old COBRA notice but supplement it with a new notice that describes the COBRA subsidy and “second election” rights.16
This new COBRA notice must include the following information:
- the availability of the COBRA subsidy;
- a prominent description of the assistance eligible individual’s right to the COBRA subsidy and any conditions on that right;
- if the employer elects to permit COBRA subsidy participants to have the option of enrollment in a lower-cost coverage option, a description of the option to enroll in different coverage;
- the name, address and telephone number necessary to contact the plan administrator and any other person maintaining relevant information in connection with the COBRA subsidy;
- a description of the “second election” right;
- a description of the obligation of subsidy-eligible individuals to notify the plan when they cease to be eligible for the COBRA subsidy and the penalty for failing to do so17
The new COBRA notice should include the usual COBRA election form, plus a form for the “second election” right, and a form allowing high-earners to “opt out” of the COBRA subsidy if they chose. (Probably few will “opt out” since, no matter how high their incomes, most terminated employees do not know how long it will take them to find new employment and therefore cannot predict what their income will be for the balance of the year.)
Under the new law, the Department of Labor must publish a model COBRA notice no later than March 19, 2009.18 While waiting for the DOL’s model notice may be the best approach for most employers, employers scheduled to conduct layoffs prior to March 19, 2009, may find it expedient to prepare the new COBRA notices themselves, particularly in situations in which terminated employees have historically received employer-subsidized COBRA for a brief period and the employer has decided to discontinue that practice due to the new government COBRA subsidy.
The requirement for new COBRA notices will require employers to make quick decisions on a plethora of issues, including:
- Should all terminated employees receive the new COBRA notices or, to avoid confusion, should they only be sent to involuntarily terminated employees, with the previous notice continuing to be sent to employees whose employment ends for some other reason or who experience a “qualifying event” other than employment termination?
- Should the employer use a separate COBRA notice for employees terminated between September 1, 2008 and February 19, 2009, who are entitled to make a “second election” of COBRA?
Failure to provide the new notice could subject the employer or plan to the severe penalties and interest that may be imposed on employers for failure to issue COBRA notices.
Can Employers Still Add 2% Markup in Computing COBRA Charge?
A group health plan that provides COBRA continuation coverage may generally charge qualified COBRA beneficiaries 102 percent of the cost that the plan charges to employees and their dependents for the same coverage. The purpose of the extra two percent is to cover some of the employer’s administrative costs for providing COBRA coverage. Some commentators have questioned whether the new law allows employers to continue to add the two-percent markup to COBRA costs. However, the Joint Explanatory Statement of the Committee of Conference on the COBRA Reduction Premium indicates that the two-percent markup is still permissible. According to this Joint Explanatory Statement, “the amount of the premium used to calculate the reduced premium is the premium amount that the employee would be required to pay for COBRA continuation coverage absent this premium reduction (e.g., 102 percent of the ‘applicable premium’ for such period).” See n. 236.
The Joint Explanatory Statement of the Committee of Conference on the COBRA Reduction Premium may be viewed at: http://www.dol.gov/ebsa/cobra.html.
Mere “Misconduct” Not Grounds for Denying Subsidy
An employer should not assume that it can decline to advance the subsidy to those employees who are terminated for “cause” rather than laid-off because of the economic crisis. Under the COBRA laws as enacted in 1985, an employer may deny COBRA to an employee who is terminated for “gross misconduct” (emphasis added). It is rare for an employer to deny COBRA coverage under the “gross misconduct” exception. This would normally be appropriate only in situations in which it is clear that an employee has misappropriated a material amount of money or other property from the employer or done something equally egregious. Reliance on “gross misconduct” to deny COBRA can be risky. An ex-employee who is denied COBRA might, while uninsured and within the applicable COBRA continuation period, sustain a catastrophic medical claim. If that ex-employee sued the employer for wrongful denial of COBRA and the jury or judge found that the employer lacked grounds to terminate the employee for “gross misconduct,” the employer might have to cover most of the cost of the catastrophic medical claim. In such a situation, the “stop loss” coverage relied upon by employers with self-funded medical plans would probably not be available to protect the employer.
Subsidy May Apply Even If Employer Too Small to be Covered by COBRA
COBRA applies only to those employers with 20 or more employees on more than 50 percent of their typical business days in the previous calendar year. However, the new COBRA subsidy applies to an employer too small to be covered by COBRA as long as the employer sponsors a fully insured health plan that is offered to employees in a state with a “mini-COBRA” law. State “mini-COBRA” laws typically require that fully insured health plans offered by employers too small to be covered by COBRA nevertheless offer certain ex-employees a period of continued health coverage, to be paid for entirely at the ex-employee’s expense. See, for example, Texas Insurance Code §§1251.251-1251.255 (requiring that certain health insurers offer up to six months of continued coverage to certain employees and dependents); Tennessee Code Annotated § 56-7-2312 (requiring that certain health insurers cover terminated employees through the end of the month of their termination and offer up to three months of continued coverage to certain employees and dependents); Louisiana Rev. Stat. Ann. § 22:215.13 (requiring that certain health insurers offer up to twelve months of continued coverage to certain employees and dependents); and Mississippi Code Annotated § 83-9-51 (requiring certain health insurers to offer up to twelve months of continued coverage to certain employees and dependents).
Public-Sector Employees Are Eligible for COBRA Subsidy
Although COBRA does not apply to federal, state and local governments in their role as employers, separate laws require public sector employers to provide ex-employees with the right to purchase continued health care coverage. See 5 USC § 8905a (as to the federal government) & 42 USC § 300bb-1 (as to state and local governments). ARRA defines “COBRA Continuation Coverage” to include coverage provided under 5 USC § 8905a as well as “a State program that provides comparable continuation coverage.”19 Thus, involuntarily terminated public sector employees may qualify as “assistance eligible individuals”20 who are entitled to a COBRA subsidy and a "second election" period.
Hidden Costs for Employers
Providing COBRA coverage costs self-insured employers at least 45% more than providing employee coverage.21 The reasons include: (1) younger ex-employees are less likely to elect COBRA; (2) less healthy ex-employees of all ages are much more likely to elect COBRA; (3) ex-employees who are seriously ill and cannot work often elect COBRA and remain on it for the maximum allowable period.
While the new 65% subsidy may cause younger and healthier ex-employees to make COBRA elections, any adjustment favorable to the employer that results from these factors may be offset by the “second chance” COBRA election feature. Under this feature, employees who were terminated on or after September 1, 2008, who did not timely elect COBRA during the regular COBRA election period, and who thereafter developed serious and very costly medical conditions have a second chance to obtain COBRA coverage. As long as an ex-employee makes a timely “second chance” COBRA election, the usual “pre-existing conditions” exclusions will not apply to any period after September 1, 2008 during which ex-employees lacked medical coverage.
A further risk imposed on employers by the nine-month COBRA subsidy, particularly in the context of a possibly long and severe recession, is that a disproportionate number of unemployed persons who have subsidized health care and no reasonable prospects of employment in the near-term may use the COBRA period to undergo expensive elective surgery.
This 45% increased cost to employers of covering COBRA beneficiaries is not the only “hidden cost” of this new COBRA legislation. Other “hidden costs” for employers with self-insured medical plans include:
- The administration cost per COBRA beneficiary averages $406 annually or 4% of average claims costs.22
- Some employers may receive costly surprises with regard to the interaction between their “stop loss” policies and the COBRA provisions of the “stimulus bill.” (Employers with self-insured medical plans rely on “stop loss” policies to protect them from some of the loss caused by catastrophic medical claims.) “Stop loss” policies often contain provisions that allow the insurer to increase the premium retroactively in the event of changes in the law, the risk, or the plan. “Stop loss” policies may also contain provisions that increase the “stop loss” attachment point for claims attributable to statutory changes that occur after the start of the policy year.
The employers likely to be hardest hit by the costs of the new COBRA laws will be the ones that were already in such a precarious financial position that they found it necessary to conduct large layoffs. Employers, particularly larger employers with self-funded health plans that have experienced or that expect large layoffs in 2009, should consult with their CPAs and health actuaries about whether the expected surge in COBRA claims may require them to make changes to Statement of Financial Accounting Standards (SFAS) 112 liabilities and/or to other financial disclosures.
Damage Control Strategies for Employers
An employer may wish to consider the strategies below to control or address the losses that it may suffer as a result of the new COBRA laws:
- Emphasize in the “COBRA subsidy” notice to ex-employees that they are not eligible for the COBRA subsidy if they are eligible for coverage through their spouse’s group health plan. On COBRA forms for employees terminated from September 1, 2008 to December 31, 2009, consider including questions asking for name of spouse, the name of the spouse’s employer, the name of the medical plan covering the spouse, whether the spouse’s plan covers dependents, the date of the next open enrollment for the spouse’s plan, and the date of the beginning of the next plan year for the spouse’s plan, etc.
- Issue the COBRA subsidy notice and the “second election” notice immediately. The longer the delay in issuance of these notices, the longer that ex-employees who previously declined COBRA will have to possibly develop a serious health condition and make a “second chance” COBRA election.
- Do not routinely subsidize COBRA as part of severance packages. The COBRA subsidy is based on 65% of the ex-employee’s COBRA costs. Thus, if the employer agrees, in a severance agreement or other document, to pay 70% of the employee’s COBRA premium, then the government subsidy would be 65% of the 30% of the COBRA premium paid by the employee and the employer would wind up paying COBRA premiums that otherwise would have been paid by the federal government.
- Employers with self-funded plans should immediately review their stop loss policies to determine whether the policies contain language that will change the stop loss attachment points for COBRA “second chance” participants and/or for all participants who receive COBRA subsidiaries.
- If most employees are covered by the employer’s self-funded coverage option but the options offered by an employer health plan also include a lower-cost fully insured plan, consider allowing ex-employees to select a lower-cost medical plan option at the time they elect COBRA. Of course, this could drive up the premiums on the insured option for 2010. But that might be less costly than covering the medical costs of “COBRA subsidy” employees under the employer’s self-insured plan. Employers that are interested in allowing “COBRA subsidy” participants to select a lower-cost fully insured option should speak with the insurer of such option to determine whether this approach would cause the insurer to impose a mid-year premium increase.
- Review the sufficiency of employer reserves for the company’s health plan, taking into account the possibility of greatly “stimulated” COBRA costs imposed by the new legislation.
It Could Have Been Even Worse
The version of the “stimulus bill” passed by the House of Representatives would also have required employers to provide up to 10 years of medical coverage to certain ex-employees: (1) those age 55 or over at the time of termination, and (2) those who ceased employment after 10 years with their employer. Employers would have been required to offer these ex-employees COBRA coverage until they became eligible for Medicare (which normally occurs at age 65). Fortunately, the Senate refused to include this provision in its version of the “stimulus bill.”
Where to Find the “Stimulus Bill”
The full text of the “stimulus bill” can be accessed here through the GPO web site.
1 COBRA is an acronym for the Consolidated Omnibus Budget Reconciliation Act of 1986.
2 See Sec. 3001(a)(1)(B) of ARRA.
3 See Sec. 6432 (c)(1) of ARRA.
4 Id. at (d)(1).
5 Id. at (c)(3).
6 See Sec. 6720C of ARRA.
7 See Sec. 3001(a)(2)(B) of ARRA.
8 Id. at (a)(2)(C).
9 The COBRA continuation period is extended to up to 29 months if the qualified beneficiary has a ruling from the Social Security Administration that he or she became disabled within the first 60 days of COBRA continuation coverage, and sent the plan a copy of the Social Security ruling letter within 60 days of receipt, but prior to expiration of the 18-month period of coverage. Certain qualifying events (such as death of the employee or divorce) or second qualifying event during the initial COBRA period, may entitle dependents to up to 36 months of coverage. Plans can charge 150% of the usual premium cost for COBRA coverage that exceeds 18 months.
10 See Sec. 3001(a)(4) of ARRA.
11 Id. at (a)(4) (B).
12 Id. at (a)(4)(C).
13 See Sec.139C(b) of ARRA (Internal Revenue Code § 139(C)).
14 Id. at 139C(b).(3).
15 See Sec. 3001(a)(7) (A) & (C) of ARRA.
16 Id. at (a) (7) (A)(iii).
17 Id. at (a)(7)(B).
18 Id. at (a) (7) (D).
19 See Sec. 3001(a)(10) (B) of ARRA.
20 Id. at (a)(3).
21 See Compensation & Benefits Review 2007; 39, 18.
22 Id. at 19.