Defined Contribution FAQs:
Is there a Maximum Employer Contribution Limit for Defined Contribution Health Plans?
No. There is no limit on the amount of money an employer can contribute to an employee’s defined contribution health plan. Also, there is no minimum contribution requirement. In other words, the employer can choose exactly how much money they want to contribute from $0 to an unlimited amount per month.
Is there a Minimum Employer Contribution Requirement for Defined Contribution Health Plans?
No. There is no minimum contribution requirement that employer must contribute to an employee’s defined contribution health plan. Also, there is no maximum contribution limit. In other words, the employer can choose exactly how much money they want to contribute from $0 to an unlimited amount per month.
Is There a Minimum Employee Participation Requirement for Defined Contribution Health Plans?
No. There are no minimum participation requirements that a company must meet in order to offer a defined contribution health plan. Also, there are no maximum participation requirements. A defined contribution health plan can be offered by a company of any size even if only one (1) employee chooses to participate.
Is a Company or Employer Required to Fund a Defined Contribution Health Plan in Separate Bank Accounts?
No. Defined contribution health plans do not need to be funded until an actual reimbursement is made. A company is not required to fund any portion of employees’ defined contributions in separate bank accounts. In fact, it is recommended that the company keep the defined contributions in their own bank accounts (e.g. a general purpose bank account) and handle reimbursements via payroll for maximum savings and control.
Can a Company or Employer Give Employees Different Amounts with Defined Contribution Health Plans?
Yes! With a defined contribution health plan, an employer can give employees different contributions based on classes of employees. Federal regulations state that “a plan or issuer may treat participants as two or more distinct groups of similarly situated individuals if the distinction between or among the groups of participants is based on a bona fide employment-based classification consistent with the employer’s usual business practices.”
To comply with these regulations, employee classes within the defined contribution health plan must:
- Be based on bona-fide business differences. These may include job categories, geographic location, part-time or full-time status, date of hire, etc.
- Treat all “similarly situated” employees equally. By creating classes based on genuine job categories, all employees within a class will be “similarly situated”.
- Not discriminate against unhealthy people. An employer cannot provide inferior benefits to specific individuals with adverse health conditions.
- Spell out the requirements for classes and benefits in the ERISA plan document.If, upon audit, a defined contribution plan is found to not comply with these rules, then the employer must provide the same level of benefits to all employees, regardless of their class, from the time the plan was created to the date of the violation.
See 29 CFR §2590.702 for more information.
Why Can’t Employers Just Pay Directly for Employees’ Individual Health Insurance Plans?
Some companies might want to pay directly for an employee’s individual health insurance plans without utilizing an ERISA and HIPAA-compliant defined contribution health plan, but doing so will put the employer out of compliance with federal regulations and increase the employer’s (and employee’s) tax liability.
There are two major reasons an employer should never pay for its employee’s individual health insurance plan:
- Federal Compliance Issues – Paying for Individual Health Insurance without a Defined Contribution Plan Causes the Employer to “Endorse” the Individual Health Insurance Plans
- Increased Tax Liability – Paying for Individual Health Insurance without a Defined Contribution Plan Causes the Payments to Become Taxable Income to the Employees
1. Federal Compliance Issues – Paying for Individual Health Insurance without a Defined Contribution Plan Causes the Employer to “Endorse” the Individual Health Insurance Plans
When an employer pays directly for an individual health insurance plan, they effectively endorse each employee’s individual insurance plan as part of an employer-sponsored group health benefit offering. In other words, according to federal law, the employer is treating the individual plan as part of an employee welfare benefit plan regulated by ERISA. Because most individual health insurance plans, do not meet minimum ERISA group plan requirements, the employer is out of compliance.
Separately, an employer is not allowed to know the details of employees HIPAA-protected medical expenses. Because most individual health insurance costs are based on an employee’s health, the health insurance details must be HIPAA protected. When an employer pays for the individual policy, they can violate HIPAA-privacy requirements because they know the details of a HIPAA-protected employee expense.
The federal government has guidelines for employers who want to contribute to employee’s individual health insurance premiums without violating the HIPAA and ERISA regulations. An ERISA and HIPAA-compliant defined contribution health plan will ensure compliance with federal law.
2. Increased Tax Liability – Paying for Individual Health Insurance without a Defined Contribution Plan Causes the Payments to Become Taxable Income to the Employees
If an employer pays for employee’s individual health insurance premiums without utilizing a defined contribution health plan, such payments must be reported as taxable income to the employees. The IRS requires that legal plan documents be established in order for employees to deduct the individual health insurance premiums from taxable income on the annual W-2. An IRS-compliant defined contribution health plan will ensure the tax deductibility of employee’s individual health insurance premiums.
What Types of Expenses Are Covered by Defined Contribution Health Plans?
A defined contribution health plan can reimburse any expense considered to be a qualified medical expense by the IRS, including premiums for individual health insurance policies. Note that employers may restrict the list of reimbursable expenses in any way they choose.
Some common categories of reimbursable items include:
1. Health Insurance Premiums
2. Doctor Visits
7. Over the Counter Drugs (Prescription required)
For more information, see IRS Publication 502.
How Can Employers Contribute to Individual Health Insurance Plans without Violating Federal Law?
The employer can use an ERISA and HIPAA-compliant defined contribution health plan to contribute to employees’ individual health insurance costs without violating federal law.
The federal government has guidelines for employers who want to contribute to an employee’s individual health insurance premiums. Specifically, the employer must take special steps to avoid “employer endorsement” of the individual plans.
To avoid endorsement of individual health insurance plans, compliance includes the following restrictions on the actions of employers:
- Employers must not be involved in employees’ decision to purchase individual health insurance, or their decision on which insurer or plan to use. They must not get involved in any negotiations with an insurance carrier over price or benefits of individual health insurance plans, and must not provide employees with claim forms or other materials related to their individual health insurance policies.
- Employers may not directly pay premiums on individual health insurance policies. They must not receive any compensation from an insurance carrier in connection with an employee’s individual health insurance policy.
- Employers must not become involved in any claim dispute between an employee and an insurance carrier; all inquiries must be directed to the insurer.
To comply with point (1) above, while still making contributions to a defined contribution health plan that can reimburse for individual health insurance premiums, employers should follow these additional guidelines:
- Employers must not pressure employees to use the defined contribution to pay for individual insurance coverage.
- In addition to reimbursing for health insurance premiums, employers should also allow the use of funds for qualified medical expenses.
- Employers must limit their role to simply verifying that a qualified medical expense (such as an individual health insurance premium) was incurred, and then reimbursing such amount from the defined contribution.