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  6.  » IRS Announces Expansion of Change in Status Rules for Cafeteria Plans

IRS Announces Expansion of Change in Status Rules for Cafeteria Plans

by | Nov 18, 2022 |

One of the basic rules under which cafeteria plans operate is that elections are irrevocable except in certain limited circumstances. Further, even when those limited circumstances apply, the change in election must be consistent with the change in status.

Legislative changes have periodically required the IRS to expand the circumstances under which changes in election are permitted. The Affordable Care Act created the ability of individuals to enroll in qualified health plans through an Exchange, sometimes referred to as a marketplace. In order to allow employees to enroll in qualified health plans through an Exchange when they need or wish to do so in appropriate circumstances, the IRS issued Notice 2014-55, which allowed employees to revoke elections for group health plans in two situations. One of those situations addressed employees with a specified reduction in hours, whose health care needs may be better served through the Exchange than through the employer’s plan, and allowed the employees to opt out of the employer’s plan in order to enroll the employee and the employee’s covered family members through the Exchange instead. The other addressed an employee who was eligible to enroll in a qualified health plan through an Exchange, either due to a special enrollment period or the Exchange’s regular open enrollment period, and allowed an election change to facilitate such an enrollment through the Exchange.

While Notice 2014-55 facilitated election changes by employees who had a reason to switch to Exchange coverage based on their own changes in circumstances, it did not permit the revocation of an election for group health plan coverage when only family members, and not the employee, were eligible to enroll through an Exchange. That limitation under Notice 2014-55 reflected the IRS’s then understanding of Code Section 36B, which allowed a premium tax credit to taxpayers satisfying certain eligibility requirements, including that an individual taxpayer’s family members were not eligible for a premium tax credit under Section 36B if the employer-sponsored group health plan was deemed affordable based on the cost to cover the employee. Under 2013 regulations, the IRS took the position that the affordability of group health plan coverage for an employee’s eligible family member was based only on the employee’s self-only cost to enroll in the coverage, and did not judge the affordability of anyone in the family based on the plan’s cost for coverage of the employee’s dependents. That rule was changed in recently issued regulations, which now provide that the affordability of group health plan coverage for a family member, for purposes of a tax credit under Code Section 36B, is based on the employee’s cost to cover the employee and the employee’s family members, a position consistent with that contained in Code Section 5000A with respect to the individual mandate and, in the IRS’s view, an interpretation more consistent with the purposes of the Affordable Care Act than the view expressed in the IRS’s 2013 interpretation of Code Section 36B. For a more detailed discussion of the revised IRS position, see our November 15 Health and Welfare Alert, “New IRS Regulations Resolve ‘Family Glitch’ Issue.” The IRS has now rejected its 2013 interpretation of Code Section 36B, and consistent with the new regulations under Code Section 36B, the IRS has now determined it is appropriate to expand on Notice 2014-55.

Notice 2022-41, which modifies Notice 2014-55, now permits a cafeteria plan to allow an employee to revoke prospectively an election of family coverage under a group health plan (that is not a health flexible savings account) so as to allow the employee’s family member(s) to obtain coverage from an Exchange, if two conditions are satisfied. These conditions are based on and generally follow the conditions contained in the second situation described in Notice 2014-55:

  1. One or more family members are eligible for a special enrollment period to enroll in coverage through an Exchange, or one or more family members seek to enroll in coverage during the Exchange’s annual open enrollment period; and
  2. The revocation of the election of the group health plan family coverage corresponds to the intended enrollment of the family member(s) in a qualified health plan through an Exchange for new coverage that is effective no later than the day immediately following the last day of group health plan coverage.

If these conditions are satisfied, and the employee does not also enroll in coverage through an Exchange, the employee must either elect self-only coverage under the group health plan or elect family coverage that includes any family members that did not enroll in coverage under the Exchange.

The guidance in Notice 2022-41, which the IRS indicated that it intends to reflect in future regulations under Code Section 125, becomes effective in 2023. As would be the case with other modifications to a cafeteria plan, the cafeteria plan must be amended to provide for these change in status election changes. The general rule is that the plan sponsor must adopt the amendment on or before the last day of the plan year in which the new elections are allowed, and the amendment may be made retroactively effective to the first day of that plan year, so long as the cafeteria plan operates in accordance with the guidance under Notice 2022-41 and the employer informs plan participants of the change. The guidance contains an important proviso, however, with respect to the timing of an amendment implementing this notice: for the plan year beginning in 2023, the amendment may be made by the end of the 2024 plan year. For example, if the plan year of a cafeteria plan runs from July 1 to June 30, an amendment for the plan year beginning July 1, 2023, may be made until June 30, 2025. However, an amendment cannot permit an employee to revoke coverage on a retroactive basis.

As a procedural rule, the guidance permits a cafeteria plan to rely on the reasonable representation of an employee that the employee and/or the employee’s family members have enrolled or intend to enroll in a qualified health plan through an Exchange for new coverage that is effective immediately after the coverage that is being revoked.

Initially in issuing Notice 2022-41, the IRS seemed to believe mid-year election changes would only be relevant for non-calendar year plans because affected families covered by calendar year plans would be able to make the relevant elections during the plan’s normal open enrollment period. In publishing the Notice, however, the IRS has made subtle changes to its language indicating that the provision allowing mid-year changes is applicable to calendar year plans as well.

As noted above, the IRS’s newly issued regulation under Code Section 36B was based on a reinterpretation of Code Section 36B. While most comments on the proposed regulation supported the IRS’s change in position, some comments expressed the view that the interpretation in the 2013 regulations was the correct interpretation. As is frequently the case these days, it is likely to be challenged as being inconsistent with the text of the ACA. If that legal challenge is successful, and the previous regulations under Code Section 36B restored, presumably Notice 2022-41 will be withdrawn. However, in the event that any such legal challenge has not invalidated the Notice by January 1, 2023, plan sponsors, particularly of non-calendar year plans, may wish to consider and implement this guidance.

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