Planning for "play or pay"

Proposed regs. flesh out definitions essential to determining whether employers owe "assessable payments” under the shared-responsibility provisions of health care reform.

Near the end of 2012, the IRS issued proposed regulations (REG-138006-12) on the employer shared-responsibility provisions under Sec. 4980H enacted by the Patient Protection and Affordable Care Act, P.L. 111-148 (PPACA), sometimes referred to as the “play-or-pay” rules. The proposed regulations address many questions that prior IRS guidance had not completely answered and provide important transitional relief. 

The employer shared-responsibility provisions of Sec. 4980H are key to the implementation of the PPACA. Effective starting in 2014, these provisions require “applicable large employers” to offer full-time employees (and their dependents) the opportunity to enroll in an employer-sponsored health insurance plan that provides employees “minimum essential coverage” with “minimum value” at an affordable cost. Employers that fail to provide the required coverage face the prospect of having to make potentially significant payments—called “assessable payments” in the Code, although they function like a penalty.

The PPACA required the IRS, along with the U.S. Department of Labor and the U.S. Department of Health and Human Services, to provide substantial guidance on many of its provisions, including how to determine (1) what are applicable large employers; (2) who is a full-time employee; (3) what “minimum essential coverage” means; (4) how to value the coverage; and (5) when coverage is affordable. In response, the IRS issued a series of notices, including:

  1. Notice 2011-36, defining employers and employees;
  2. Notice 2011-73, defining affordability;
  3. Notice 2012-17, providing guidance on how an employer may classify new employees as either full time or part time, focusing particularly on employees whose status is initially uncertain;
  4. Notice 2012-58, further refining earlier guidance and assuring employers that the guidance can be relied on through at least the end of 2014; and
  5. Notice 2012-59, regarding the maximum 90-day waiting period for plan entry.

The proposed regulations incorporate and consolidate the guidance in the notices, as well as provide guidance in areas the notices had not addressed. (For AICPA comments submitted to the IRS on the proposed regulations regarding the employer shared-responsibility provisions, see One of the new areas addressed is how an applicable large employer calculates the assessable payment for not offering minimum essential coverage or the assessable payment for offering insurance deemed to be unaffordable or that does not provide minimum value.

The proposed regulations define generally applicable terms at Prop. Regs. Sec. 54.4980H-1; define an applicable large employer at Prop. Regs. Sec. 54.4980H-2; provide a methodology for determining full-time employees at Prop. Regs. Sec. 54.4980H-3; and set forth the assessable payment calculations at Prop. Regs. Secs. 54.4980H-4 and 54.4980H-5. The proposed regulations are effective for periods beginning after Dec. 31, 2013, and, as noted in the preamble, can be relied upon by taxpayers pending the issuance of final regulations or other guidance.

As a compilation of prior guidance, the proposed regulations do not provide any particular surprises. However, the preamble indicates the IRS is well aware of many of the schemes some employers have apparently considered as a way around the rules. In this respect, the proposed regulations provide an anti-abuse rule at Prop. Regs. Sec. 54.4980H-3(e)(5) to address practices that have the effect of circumventing or manipulating the application of the employee rehire rules. In addition, the IRS said in the preamble it plans to address in final regulations a shared-employee arrangement whereby an employer co-employs an employee along with a temporary staffing agency, with each purported employer employing the individual for 20 hours a week. The IRS believes the staffing agency would rarely, if ever, be the true employer and that the primary purpose of using such an arrangement would be to avoid the application of Sec. 4980H.

On March 21, 2013, the IRS separately issued proposed regulations regarding the 90-day waiting period (REG-122706-12).


The assessable payments under Sec. 4980H apply to “applicable large employers,” employers that in the prior calendar year employed on average at least 50 full-time employees or full-time equivalent employees (FTEs). For each month in the prior calendar year, the employer adds the number of full-time employees (employed an average of at least 30 hours per week or 130 hours per month) plus FTEs.

To obtain the number of FTEs, the employer determines the aggregate number of hours of service performed in each calendar month by all non-full-time employees (up to 120 hours for any employee) and divides that number by 120 (retaining any fraction for the month but, after adding to full-time employees for each month and averaging the monthly totals for the year, rounding down to a whole number). Although this determination is made on an annual lookback basis, under the proposed regulations’ transitional rule for 2014, employers may use a period of at least six consecutive months in calendar 2013. An employer is not an applicable large employer if its full-time employees and FTEs exceeded 50 for no more than 120 days during the calendar year and the employees in excess of 50 who were employed during that period were seasonal workers.

Sec. 4980H applies to all common law employers, including government entities, tax-exempt organizations, and churches. All employees of a controlled group under Sec. 414(b) or (c), or an affiliated service group under Sec. 414(m), are taken into account in determining whether the members of the controlled group or affiliated service group together constitute an applicable large employer. Interestingly, however, pending further guidance, government entities, churches, and conventions or associations of churches may rely on a reasonable, good-faith interpretation of Secs. 414(b), (c), (m), and (o) in determining whether a person or group of persons is an applicable large employer.

The statute does not define “employee.” The proposed regulations define an employee under the common law standard described at Regs. Sec. 31.3401(c)-1(b) and an employer under the common law standard described at Regs. Sec. 31.3121(d)-1(c). Applying this standard consistently, the proposed regulations provide that a sole proprietor, a partner in a partnership, and a 2% S corporation shareholder are not employees.

Most employee-benefit-related items in the Code include leased employees, as defined in Sec. 414(n), within the definition of employee. However, Sec. 4980H does not cross-reference Sec. 414(n), nor vice versa. Accordingly, leased employees are not employees for the purposes of defining an applicable large employer or determining the number of employees when computing a recipient employer’s assessable payment. Of course, if these individuals are not employees of the recipient employer, the leased employees will be the employees of the employee leasing company.

The proposed regulations provide guidance on how the applicable large-employer standards apply to foreign employers with a U.S. presence and foreign employees of U.S. entities. In this regard, hours of service generally do not include those worked outside the United States. This rule applies irrespective of the individual’s residency or citizenship status. Therefore, foreign-based employees will not have hours of service. However, all hours of service for which an individual receives U.S.-source income are counted for these rules.


Normally, the question of who is and who is not a full-time employee is straightforward. However, the proposed regulations provide guidance on how to treat employees with variable work hours, rehired employees, seasonal employees, and employees who have a change in employment status, as well as how an employer may classify newly hired employees. Complex in many respects, this guidance involves lookback periods, stability periods, and administrative periods.

In the simplest terms, an employer may adopt a measurement period of no less than three and no more than 12 months to determine whether a variable-hour employee is a full-time employee. Issues related to the definition of seasonal employees are reserved for the final regulations or future guidance. In the meantime, employers may apply reasonable, good-faith interpretations of the definition of seasonal workers under Sec. 4980H(c)(2)(B)(ii) and Department of Labor regulations to which it refers.


With respect to assessable payments, Sec. 4980H does not define “dependents.” The proposed regulations define an employee’s dependent as the employee’s child (as defined in Sec. 152(f)(1)) who is under 26 years old. Thus, the term “dependent” does not include an employee’s spouse or any other person who may be the employee’s dependent for other purposes of the Code. See also the discussion of transition relief for dependent coverage, below.


An applicable large employer that fails to offer minimum essential coverage or offers coverage that is unaffordable or does not provide minimum value may be liable for an assessable payment under Sec. 4980H(a) or (b) only if one or more full-time employees are certified to the employer by a health benefit exchange as having received an applicable premium tax credit or cost-sharing reduction. In such instances, an employer will have an opportunity to respond to the exchange’s certification before the IRS takes action to collect the payment.

The assessable payment amount for failing to offer minimum essential coverage (Sec. 4980H(a)) is one-twelfth of $2,000, or $166.70, per month per full-time employee over 30. The assessable payment amount for offering coverage that is not affordable or does not provide minimum value (Sec. 4980H(b)) is the number of full-time employees certified as enrolled in an exchange plan, multiplied by one-twelfth of $3,000 ($250) per month. (The dollar amounts are adjusted for inflation after 2014.) The latter payment amount is subject to an overall limitation of what the payment amount for failing to provide minimum essential coverage would have been.

An employer will be deemed to have made an offer of coverage if, considering all the facts and circumstances, the employee has an effective opportunity to elect (or decline) to enroll in the coverage at least once during the plan year.

Interestingly, even though Sec. 4980H(a) does not give a basis for this, the proposed regulations provide that if an employer offers minimum essential coverage to all but 5% of its full-time employees in a calendar month or, if greater, five full-time employees (and their dependents), the employer is considered to have offered coverage to substantially all full-time employees and is not subject to the Sec. 4980H(a) assessable payment for failing to provide coverage. However, if one of the employees who is not offered coverage obtains subsidized coverage through a health benefit exchange, the employer will be subject to the $250-per-month penalty under Sec. 4980H(b).  

As used in the proposed regulations, the terms “minimum essential coverage” and “minimum value” have the same meaning as provided, respectively, in Secs. 5000A(f) and 36B(c)(2)(C)(ii), as well as in any related regulations or other administrative guidance. Minimum essential coverage is a plan or coverage offered in the small or large group market within a state (including grandfathered plans) or a governmental plan. Coverage provides minimum value if the plan’s share of the cost of allowed benefits is at least 60%.


An employee who is offered coverage by an applicable large employer may be eligible for a premium tax credit or cost reduction if the coverage is not affordable within the meaning of Sec. 36B(c)(2)(C)(i). Coverage is affordable if the employee’s required contribution for self-only coverage does not exceed 9.5% of the employee’s household income for the tax year. Recognizing the difficulty of determining household income, the IRS established three affordability safe harbors for the purpose of the assessable payment rule. These safe harbors apply even if a health benefit exchange grants the employee a premium tax credit or cost-sharing reduction.

An employer may use one or more of the affordability safe harbors only if the employer offers its full-time employees and their dependents the opportunity to enroll in a plan that provides minimum essential coverage and minimum value with respect to the self-only coverage offered to the employees. Use of any of these safe harbors is optional, and the employer may choose to apply one or more of the safe harbors for all or any reasonable category of employees, provided it does so in a uniform and consistent basis for all employees in a category.

Form W-2 safe harbor. An employer will not be subject to an assessable payment with respect to a full-time employee if that employee’s required contribution for the calendar year for the employer’s lowest-cost, self-only coverage that provides minimum value does not exceed 9.5% of that employee’s wages as reported in Box 1 of Form W-2, Wage and Tax Statement. The applicability of this safe harbor is determined after the close of the calendar year. To qualify for this safe harbor, the cost of coverage must remain at a consistent amount or percentage of W-2 wages during the calendar year. The rules provide adjustments for employees not offered coverage for the entire calendar year and for plans that operate on a fiscal-year basis. One issue with respect to the Box 1, W-2 wages approach is that Box 1 wages are reduced by employee pretax contributions to plans established under Secs. 125, 401(k), 403(b), and 457(b). Accordingly, employee decisions with respect to how much to contribute to these plans will cause variations in the net wages of individual employees who have substantially the same gross wages.

Rate-of-pay safe harbor. An employer can use the rate-of-pay safe harbor with respect to an employee for a calendar month if the employee’s required contribution for the month for the lowest-cost, self-only coverage that provides minimum value does not exceed 9.5% of an amount equal to 130 hours multiplied by the employee’s hourly rate of pay as of the first day of the coverage period (generally the first day of the plan year). For salaried employees, monthly salaries are used, and the employer may use any reasonable method for converting other payroll periods to monthly salaries.

Importantly, an employer may use this safe harbor only to the extent it does not reduce the hourly wage of hourly employees or the monthly wages of salaried employees during the calendar year (including through the transfer of employment to another member of the employer’s controlled group).

Federal poverty-line safe harbor. An employer will satisfy the poverty-line safe harbor if the employee’s required contribution for the calendar month for the lowest-cost, self-only coverage that provides minimum value does not exceed 9.5% of the annual amount established as the federal poverty line (for the state in which the employee is employed) for a single individual for the applicable calendar year, divided by 12. While clearly the most expensive of the safe harbors because it provides the greatest employer subsidy to the employee, this federal poverty-line approach also is the simplest to administer (particularly for a calendar-year plan).

Even though the regulations aggregate all employers in a controlled group to determine applicable large employer status, the determination of whether an employer is subject to an assessable payment and the amount of any such payment is made on a member-by-member basis. Therefore, the liability for, and the amount of, any assessable payment under Sec. 4980H is computed and assessed separately for each applicable large employer member, taking into account that member’s offer of coverage (or lack thereof) and number of full-time employees.

However, this separate determination of liability does not permit each member of the controlled group to use the 30-employee offset of Sec. 4980H(c)(2)(D). The 30-employee offset permits an applicable large employer to reduce its number of full-time employees by 30 solely for purposes of calculating either the assessable payment for not offering minimum essential coverage under Sec. 4980H(a) or the overall limitation under Sec. 4980H(b)(2) where the employer does not offer affordable or minimum-value coverage.

For example, an employer with 75 employees that does not offer minimum essential coverage for any month in a year would calculate its assessable payment as $90,000 ((75 ‒ 30) × $2,000)). The Code and the proposed regulations require the applicable large employer members to allocate the 30-employee offset ratably among all members, based on the number of full-time employees employed by each applicable large employer member during the calendar year. Under the proposed regulations, fractional numbers are rounded up to one, even if the rounding rule results in an aggregate reduction for the entire group that exceeds 30.


By statute, the assessable payment rules apply on a calendar-year basis. However, many employers operate their plans on a fiscal-year basis. The proposed regulations provide some transitional relief in this area. If an applicable large employer member maintained a fiscal-year plan as of Dec. 27, 2012, the relief applies with respect to employees of the applicable large employer member (whenever hired) who would be eligible for coverage, as of the first day of the first fiscal year of that plan that begins in 2014 (the 2014 plan year) under the eligibility terms of the plan as in effect on Dec. 27, 2012. If these employees are offered affordable, minimum-value coverage no later than the first day of the 2014 plan year, no Sec. 4980H assessable payment will be due with respect to that employee for the period prior to the first day of the 2014 plan year.

The IRS recognized that not all employers’ plans cover dependents. Accordingly, the proposed regulations provide that any employer that takes steps during its 2014 plan year toward satisfying the provisions relating to offering coverage to the dependents of its full-time employees will not be liable for any assessable payment solely on account of a failure to offer coverage to the dependents for the 2014 plan year.

The proposed regulations provide employers with the necessary guideposts and some valuable transition rules needed to begin planning for the 2014 effective date of the play-or-pay rules. However, considering the imminence of that date, the proposed regulations leave many smaller employers with little time to structure their workforce to avoid being deemed applicable large employers subject to the shared-responsibility payment.


When undertaking a strategic analysis of their play-or-pay situation, many employers will have a complicated decision to make. The potential for an employer’s workforce to receive subsidies for enrolling in health coverage through the health benefit exchange is a key consideration. Two potential subsidies are available: the premium tax credit and the cost-sharing subsidy.

Available to individuals and families with household income from 100% to 400% of the federal poverty level (FPL), the premium tax credit reduces the cost of purchasing insurance through the exchange. Employees who are either enrolled in an employer-sponsored plan or eligible to enroll in an affordable employer-sponsored plan (that meets the minimum-value and essential-coverage requirements) are not eligible for the premium tax credits. The cost-sharing subsidy comes in two forms. First, the out-of-pocket limits for cost sharing will be reduced for individuals whose income is between 100% and 400% of the FPL, who enroll in a silver-level plan through the health benefit exchange. Second, for individuals with income less than 250% of the FPL, insurers will be paid to reduce the individuals’ total allowed cost of benefits under their insurance plan (which they will likely do by reducing the individuals’ cost-sharing requirements such as co-payments, coinsurance, and deductibles). However, an employee can receive the cost-sharing subsidy only for months in which a premium tax credit is allowed.

If an employer has many employees with incomes of less than 400% of the FPL and does not offer minimum essential coverage to substantially all its workforce, the likelihood that at least one employee will obtain coverage and qualify for a subsidy is high. If even one employee obtains coverage and qualifies for a subsidy, the $2,000 per full-time employee nondeductible penalty of Sec. 4980H(a) applies. However, for certain employers, paying a $2,000 nondeductible penalty, while a considerable expense, would be cheaper than the costs associated with their current health insurance plans or with adopting revised plans that offered coverage to all full-time employees.

However, terminating the health plan and paying the penalty may backfire on an employer whose workforce values the coverage received. Such a decision could lead to employee retention problems, particularly with respect to higher-paid employees who will not qualify for any significant subsidy under the health benefit exchange. If an employer has to raise taxable pay for a significant portion of its workforce, in effect to subsidize the employees’ purchases of health insurance through an exchange, the combined cost of the penalty (nondeductible) and pay raises (including any associated increase in FICA costs) may be more expensive than offering all the employees the lowest-cost plan that complies with the minimum essential coverage and minimum value requirements on an affordable basis (e.g., under the W-2 safe-harbor, the employee’s share of the premium cost would not exceed 9.5% of Box 1, W-2 wages).

Many unknowns remain, including what the cost of coverage through the health benefit exchanges will be and whether employees who do not have health coverage will seek coverage through the exchanges. With Jan. 1, 2014, quickly approaching, many employers will need to rethink their policies regarding health insurance offerings now to ensure any necessary changes are implemented and communicated in advance of the effective date of these new rules.

Editor’s note: A version of this article appeared as “Tax Clinic: IRS Proposes Employer Play-or-Pay Regulations Under Health Care Reform,” The Tax Adviser, April 2013, page 209.


A key element of the new health care laws is the employer shared-responsibility provisions of Sec. 4980H due to take effect starting next year. Certain employers that fail to provide health care coverage meeting certain requirements will have to make penalty-like assessable payments.

Some of the many questions left unanswered in the statute have been addressed in proposed regulations covering definitions of terms such as “employee” and “dependent” and how to count full-time employees or their equivalent for threshold requirements. Also addressed are how the rules apply to controlled groups and transition rules for fiscal-year plans and providing dependent coverage.

Safe harbors for determining the affordability of coverage are available; however, they must be applied in a uniform and consistent basis for all employees in a reasonable category.

Employers will have complicated decisions to make in weighing the cost of coverage, their employees’ prospective eligibility for premium tax credits and a cost-sharing subsidy under the health care laws, and any resulting assessable payments.

William P. O’Malley ( ) is a director of the Washington National Tax Staff of McGladrey LLP.

To comment on this article or to suggest an idea for another article, contact Paul Bonner, senior editor, at or 919-402-4434.


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