February 15, 2018

Over the past several months some employers have received a Letter 226J from the IRS proposing a penalty under section 4980H of the Internal Revenue Code. The letters provided by the IRS to employers have provided many lessons for employers moving forward either to avoid these penalties entirely or to be able to effectively respond to such a letter. The following are four items an employer should consider to place itself in an optimal position in future years.

Review Any Letter 226J Closely

Each Letter 226J I have reviewed in private practice has had egregious errors. Therefore, it is of utmost importance that any Letter 226J is reviewed by a person who is an expert with the employer mandate penalty and the Forms 1094-C and 1095-C. Some common mistakes we have seen are employers forgetting to check box C “Section 4980H Transition Relief” on line 22 of the Form 1094-C and checking the “No” box or not checking a box in column A “Minimum Essential Coverage Offer Indicator” when, in fact, the “Yes” box should have been checked. This mistake has led to the section 4980H(a) penalty being incorrectly assessed against many employers.

Additionally, many employers who have received the Letter 226J have left column E, the “Section 4980H Transition Relief Indicator” column, blank. Any employer who had 100 or more full-time employees including full-time equivalent employees in 2014 was entitled to put a “B” in column E of part III of the Form 1094-C. By entering a “B” in column E, the employer was entitled to a reduction of 80 as opposed to 30 when calculating the section 4980H(a) penalty and the cap on the section 4980H(b) penalty.

The Codes Entered on the Form 1095-C Determine Whether an Employer Receives a Letter 226J

Many employers and some service providers did not realize it at the time, but the codes an employer entered on lines 14 and 16 of the Form 1095-C was a determining factor (or at least a theoretically determining factor) whether an employer received a Letter 226J. An employer who completed line 14 with a 1H code and left line 16 blank is one example of a code combination that left the employer exposed to the possibility of that employee triggering a section 4980H penalty. In private practice, I have frequently seen employees listed on the Form 14765 who were coded in a way to leave the employer exposed to the section 4980H penalties, but could have been coded in a way to protect the employer. For example, many employers have underutilized the limited non-assessment period code, code 2D. For any month an employee is coded with the limited non-assessment period code, the employee will not be able to trigger the section 4980H penalties for that particular month. Accord Systems created software that allows employers to see employees who could cause a problem with regard to the section 4980H penalties before the employer files. This is an extremely useful tool as it will prevent employers from having to deal with the burdens of the Letter 226J in the future.

It is important to note that certain codes only theoretically prevent the employer from being assessed a section 4980H penalty. Unfortunately, the IRS’ assessment of the section 4980H penalties has been flawed and I have seen multiple instances in private practice of employees triggering the section 4980H penalties in months in which codes were entered on lines 14 and 16 that should have prevented the employee from triggering the section 4980H penalties. For example, in one instance a client had an employee trigger the section 4980H penalty for a month despite having entered a 1E/2G code combination for the month (the line 15 amount was well below the federal poverty level as well). This is yet another reason it is so important for any employer receiving a Letter 226J to have an expert review all IRS correspondence.

It is Imperative for Employers to Accurately Track Who Needs to be Offered Coverage

As discussed above, many employers who are receiving a Letter 226J are being incorrectly assessed a section 4980H(a) penalty because the Form 1094-C was completed inaccurately. In 2015, an employer was only required to offer 70 percent or more of its full-time employees minimum essential coverage to check the “Yes” box in column A in part III of the Form 1094-C. By checking the “Yes” box for a particular month, the employer avoids the section 4980H(a) penalty and can only be subject to the section 4980H(b) penalty.

Unfortunately, the standard for checking the “Yes” box in column A in part III of the Form 1094-C is significantly higher for all years after 2015. In 2016 and beyond an employer is required to offer 95 percent or more of its full-time employees minimum essential coverage to check the “Yes” box in column A. From my experience reviewing employers who forgot to check the “Yes” box in column A in 2015 this higher standard would have created an issue in certain months as the employer fell short of the 95 percent threshold because of its poor tracking of who was a full-time employee. While little can be done in 2016 and 2017 it is critical that all employers know when an employee is a full-time employee and needs to be offered coverage in order to avoid the section 4980H penalties.

Record and Retain

Finally, all employers should be recording their offers of coverage and retaining signed waivers of coverage. When responding to the IRS for an individual listed on the Form 14765 (i.e. an employee triggering the section 4980H penalty for at least one month) one of the best items an employer can provide the IRS is a signed offer waiving coverage. An employer gets bonus points if the signed waiver demonstrates that the coverage provided minimum value and was offered at a price considered “affordable” utilizing one of the affordability safe harbors. Obviously, a signed waiver does little good if it is not retained so the retention step is an important part of the process.

Additionally, any employer who is utilizing the look back measurement method should document the dates and time frames it has elected to use. The look back measurement method provides more opportunities to utilize the limited non-assessment period code, code 2D, when completing the Form 1095-C. Therefore, electing to use the look back measurement method can protect the employer from the section 4980H penalties. The look back measurement method is particularly useful for employers who have employees who could be variable hour employees (employees accumulating around 30 hours of service per week).

Conclusion

Employers need to pay attention to detail when filing the Forms 1094-C and 1095-C in the future. Completing the Forms correctly the first time and meeting the Affordable Care Act standards required to avoid the employer mandate should prevent the employer from receiving a Letter 226J. If an employer does receive a Letter 226J, it should retain a person who is an expert with the employer mandate penalty and the Forms 1094-C and 1095-C to assist it in its response.

Should you have any additional questions or need assistance filing the Forms 1094-C and 1095-C, please contact us.

About the author – Ryan Moulder serves as General Counsel at Accord Systems, LLC and is a Partner at Health Care Attorneys P.C. Ryan received his LL.M. from Georgetown University Law Center and his J.D. from Saint Louis University School of Law. He has distinguished himself as a leader in the Affordable Care Act arena and has written and spoken on a variety of ACA topics as it relates to compliance for companies.

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