Many employers establish an HR strategy that encourages, or simply enables, employees to retire before the age of 65. In some cases, they do so to make it easier for staff to start enjoying their golden years a little earlier. In others, the idea is to create opportunities for younger workers.
Whatever the reason, retirement before Medicare eligibility at 65 is more viable if retirees can get help with their health insurance premiums. One way to provide such help is to offer them pre-Medicare eligible health benefits. But, with the advent of the Affordable Care Act (ACA), doing so will take careful planning and execution.
Providing any level of pre-Medicare health benefits is relatively uncommon, so, first and foremost, you need to make sure that offering such benefits makes sense with your strategic goals. If it does, you could allow employees who retire before the age of 65 to maintain their health benefits until they’re Medicare-eligible simply by keeping them on your regular plan.
But this could exacerbate your liability under the impending “Cadillac tax” that begins in 2018. (See the sidebar “The Cadillac Tax implications of retiree-only HRAs.”)
That leaves you the alternative of helping early retirees buy coverage from a public Health Insurance Marketplace. Generally, the way to do so is via contributions to a “retiree-only” Health Reimbursement Arrangement (HRA) — but you’ll need to clear a few ACA hurdles.
Traditional HRAs are considered health plans under the ACA. They can be integrated with your basic health plan (or another employer’s group plan, such as that of an employee’s spouse) for ACA compliance purposes.
But HRAs used to help retirees buy individual coverage — through a public Health Insurance Marketplace, for instance — are treated differently under the ACA. Specifically, retiree-only HRAs are subject to the following ACA provisions:
- The “Cadillac” tax (if they exceed the plan cost thresholds, beginning in 2018),
- Internal Revenue Code Section 6055 (reporting of minimum essential coverage),
- Fees due to the Patient-Centered Outcomes Research Institute, and
- Transitional reinsurance fees.
Notice that absent from that list is the requirement that there be no lifetime limit on plan benefits. Earlier this year, a U.S. District Court in San Diego ruled in King v. Blue Cross and Blue Shield of Illinois that a retiree-only HRA plan for retirees that limited lifetime benefits to $500,000 didn’t violate the ACA. As of this writing, however, the case is pending before the U.S. Court of Appeals for the Ninth Circuit.
To avoid falling under additional ACA requirements, it’s necessary to demonstrate that an HRA is of the retiree-only variety. At present, there’s no hard and fast definition of a retiree-only HRA. But, chances are, the IRS will recognize the legitimacy of an HRA for retirees if the plan:
- Includes its own plan documents (including a summary plan description),
- Files its own 5500 forms,
- Has distinct contracts with insurance companies, and
- Establishes its own funding mechanisms and administrative systems.
Note: Offering a retiree-only HRA doesn’t preclude an employer from offering a traditional HRA to active employees.
Tax subsidy eligibility
Just like anyone else using a public Health Insurance Marketplace, pre-Medicare eligible retirees might qualify for income-based tax subsidies. But they’ll need to determine whether the value of the tax subsidy is greater or less than what they would receive through the HRA. This is because they can’t “double-dip” — in other words, they’re ineligible for the tax subsidy if they have access to the HRA.
Employees who are better off taking the tax subsidy must waive benefits under the HRA prospectively for the year in which they plan to take the tax subsidy. It’s insufficient for retirees simply to refrain from tapping into the HRA to pay for health care expenses that year.
As an employer designing a retiree-only HRA, you can decide whether waived HRA amounts are permanently forfeited or can accumulate for future use. One way to simplify plan administration for employees who are eligible for the tax subsidy and expect to use it: Give them the option to defer all HRA contributions until they reach age 65 and become eligible for Medicare.
As a reminder, tax subsidy eligibility is based on an individual’s modified adjusted gross income as reported on Line 37 of the federal 1040 tax return form. The subsidies themselves are based on a sliding scale. Those at 100% of the federal poverty line are eligible for the maximum subsidy. Thereafter, subsidy amounts are reduced in stages down to zero for those at 400% of the poverty level.
The scale is also based on family size. For 2015, 400% of the poverty level was pegged at $46,680 for a single taxpayer and $62,920 for a family of two.
Feasibility and context
Offering pre-Medicare eligible retirees health benefits isn’t feasible for every employer. But if your organization finds this approach affordable, and it makes sense within the context of your overall HR strategy, setting up a retiree-only HRA might be the most economical way to do so.
Sidebar: The Cadillac Tax implications of retiree-only HRAs
As 2018 approaches, the prospect of facing the stiff nondeductible 40% excise tax on health benefits that exceed “Cadillac” value thresholds becomes ever more daunting. If you provide health benefits to pre-Medicare eligible retirees and could be subject to the Cadillac tax, a retiree-only Health Reimbursement Arrangement (HRA) could help you dodge the bullet.
In 2018, the threshold plan value amounts for active employees will be $10,200 for self-only coverage and $27,500 for family coverage. Different thresholds apply to retirees age 55 to 64: $11,850 for self-only and $30,950 for family. Those dollar limits cover the sum of your contribution to the health plan and those of your employees. But if you have a retiree-only HRA, the caps apply to only the amounts you reimburse in those accounts.
For example, suppose that, with a regular retiree health plan, the value of your contribution for family coverage is $28,000, while the retiree contributes $6,000. That $34,000 total is $3,050 above the $30,950 ceiling, and you’d owe 40% of that excess — $1,220 — in excise tax. If, instead, your $28,000 were made available to the retiree via an HRA, there would be no excise tax liability because only the $28,000 would be applied toward that $30,950 ceiling.