Employee Benefit Plans Alert – January 2024

By Louis F. LiBrandi, Partner; Joel Sowell, Tax Manager; and Keely Portillo, Tax Professional

This January 2024 edition of Employee Benefit Plans Alert focuses on the following topics:

• Electronic Filing for Form 5558 Delayed
• IRS Final Regulation: Electronic Filing Requirements
• Nondiscrimination Testing for Section 125 Cafeteria Plans
• Significant Changes to Affordable Care Act (ACA) Thresholds Could Subject Employers to Potential Penalties

Electronic Filing for Form 5558 Delayed

The Internal Revenue Service (IRS) had indicated earlier in 2023 that electronic filing for Form 5558 (Application for Extension of Time to File Certain Employee Plan Returns) would be available for 2023 plan year filings starting January 1, 2024. However, the Department of Labor (DOL) recently informed software vendors that this capability will not be available on time.

Subsequently, the IRS has updated their 5500 Corner website to indicate that electronic filing of Form 5558 has been delayed until January 1, 2025. Also, the instructions for Forms 5500, 5500-SF and 5500-EZ have removed references to electronic filing and now state that the extensions should be filed by mail through the Ogden, Utah service center. Finally, the Department of Labor (DOL) website now mentions that electronic filing for Form 5558 (Application for Extension of Time to File Certain Employee Plan Returns) will not be available for form year 2023.

IRS Final Regulation: Electronic Filing Requirements

On February 23, 2023, the Internal Revenue Service (IRS) released final regulations for electronic filing. The new regulations take effect January 1, 2024 and affect individuals filing certain information returns. Previously, the IRS did not require electronic filing of information returns unless a person needed to file at least 250 information returns in a calendar year. This filing threshold was applied separately to each information return type.

However, the updated final rule lowers the filing threshold significantly and aggregates most types of information returns under the new single threshold. Starting with the 2023 reporting year, returns must be filed electronically if a filer needs to file ten or more aggregated information returns of specified types, such as Forms W-2, 1099, 1094-B/C, 5500 and 5330.

Failure to comply with the new filing requirements may expose the filer to late, incorrect, or non-filing penalties.

Nondiscrimination Testing for Section 125 Cafeteria Plans

A Section 125 cafeteria plan is a common type of employee benefit plan that allows employees to make pre-tax contributions for several types of benefits (e.g., disability insurance, adoption assistance, etc.). Section 125 cafeteria plans are most frequently used to fund health insurance premiums and to allocate dollars to reimbursement accounts (i.e., flexible spending accounts [FSAs]) for medical expenses and dependent care. Both employers and employees realize tax benefits under Section 125 plans – the pre-tax contributions reduce taxable income for employees and reduce the employer’s share of federal/state taxes, FICA taxes (i.e., the 6.2% Social Security and 1.45% Medicare taxes) and unemployment taxes. While the tax advantages make cafeteria plans popular, plan sponsors should be aware that Section 125 cafeteria plans have nondiscrimination requirements like retirement plans and these requirements must be followed in order for a cafeteria plan to retain its tax-favored status.

The nondiscrimination requirements for Section 125 cafeteria plans are designed to ensure that individuals who are either highly compensated employees (HCEs) or key employees do not benefit from the plan at the expense of other employees. The specific tests that a Section 125 cafeteria plan needs to run are outlined below:

Section 125 Cafeteria Plan

1. Eligibility Test
2. Contributions & Benefits Test
3. Key Employee Concentration Test

Health Flexible Spending Account (FSA)

1. Benefits Test
2. Eligibility Tests (Note: there are several ways that an FSA plan can pass the eligibility test if the first test results in a failure)

Dependent Care FSA

1. Eligibility Test
2. Contributions & Benefits Test
3. More-Than-5%-Owners Test
4. 55% Average Benefits Test

While each of the tests above are slightly different, eligibility tests measure whether a nondiscriminatory proportion of employees can participate in a cafeteria plan, while contributions and benefits tests measure whether contributions are proportional to the benefits received for both highly and non-highly compensated employees. The other tests are primarily concerned with the proportion of benefits received by highly compensated or key employees.

Nondiscrimination testing for Section 125 cafeteria plans is required annually. Also required for Section 125 plans is a written plan document. Plan documents for Section 125 plans have specific content, update and distribution requirements.

If you need assistance with nondiscrimination testing for your Section 125 cafeteria plan or with setting up a plan document, the Employee Benefit Services Group at PKF O’Connor Davies can help. Contact your engagement team or one of our professionals listed at the end of this Alert for more information.

Significant Changes to ACA Affordability Thresholds Could Subject Employers to Potential Penalties

Could you be subject to Affordable Care Act (ACA) affordability penalties based on the new IRS thresholds? The IRS updated the percentages for ACA penalties in August 2023 and the threshold for determining affordable offers of health insurance coverage is now at 8.39%, which is the lowest level to date. This change represents an even more dramatic decrease than 2023, when the affordability percentage dropped below 9.5% for the first time in the existence of ACA.

The affordability penalty is one of two employer-shared responsibility payments (ESRPs) under ACA – the other being the penalty assessed to an Applicable Large Employer (ALE) for not offering health coverage to 95 percent of its full-time (by ACA standards) employees.

ACA Affordability Penalty Amounts

On an individual basis, the affordability penalty is higher than the 95% penalty – however, the 95% penalty escalates quickly as it is assessed on the total number of an ALE’s full-time employees (minus the first 30 FTEs). Both ESRPs are inflation-adjusted and have increased over time:

Determining the Affordability Penalty

How could an ALE become subject to the ACA affordability penalty? In short, there are two ways – either a full-time employee (by ACA standards) receives a premium tax credit to obtain health insurance through the Health Insurance Marketplace or the coverage is deemed to be not affordable based on the previously-mentioned threshold percentage. The affordability calculation is accomplished by comparing the threshold percentage with measures of an employee’s cost of coverage and income. The lowest-cost single-only amount of coverage available to all employees should always be used as the cost of coverage amount for this analysis, but employers are allowed to choose one of three different measures of income for each category of employees. If the actual cost of an employee’s coverage is less than the measure of income times the current year’s affordability threshold, then the coverage is deemed to be affordable.

ACA penalties are assessed on a monthly basis, so the mechanics of the affordability calculations are as follows:

1. Federal poverty line: The federal poverty line amount for the prior year (for calendar year plans) is multiplied by the current year’s affordability percentage and adjusted to a monthly amount. If the actual cost of coverage is less than this amount, then the coverage is deemed to be affordable.
2. Rate of pay: Under the rate of pay safe harbor, the affordability percentage is multiplied by the employee’s monthly salary or hourly rate of pay. (The hourly rate of pay is multiplied by 130 to determine a monthly equivalent.) The coverage will be deemed affordable if the actual cost of coverage is less than this product.
3. Form W-2: Box 1 Wages are multiplied by the affordability percentage and converted to a monthly amount to determine the threshold amount. If the actual coverage is less than the threshold amount, then the coverage is affordable. If the W-2 safe harbor is used, adjustments may be necessary to consider the number of months eligible for coverage for partial-year employees.

Implications of the Reduced Penalty Threshold

As you can see, a decrease in the affordability percentage could result in a lower premium threshold that offers of coverage must meet to avoid potential penalties. More specifically, if you use the rate of pay or Form W-2 safe harbors and your wages have remained steady over the last couple of years, then it is very possible that some offers of coverage may not currently be affordable by ACA standards.

On the other hand, the poverty level safe harbor is based on an income measure that is indexed to inflation. As a result, the poverty level premium amount using the new percentages ($101.93) is only slightly less than the prior year’s amount ($103.28). However, plan sponsors need to evaluate whether offering coverage at the poverty level rate makes economic sense for their organizations.

Contact Us

The Employee Benefit Services Practice at PKF O’Connor Davies is available to assist employers with all aspects of ACA compliance – from the highly-detailed ACA reporting requirements to assistance with IRS penalty notices. We can also review your plan to assess the risk of penalties and look for areas to help you reduce that risk. For more information, please contact your client services partner or any of the individuals below:

Louis F. LiBrandi, EA, CEBS, ChFC, TGPC
Partner
Employee Benefit Services Group
llibrandi@pkfod.com | 646.449.6327

Matthew J. Corona, CPA
Partner
mcorona@pkfod.com | 914.341.7032

Joseph Farrenkopf, CPA
Partner
jfarrenkopf@pkfod.com | 914.341.7002

Ashley Mayer, CPA
Partner
amayer@pkfod.com | 914.341.7094

Joel Sowell, CPA
Manager
Employee Benefit Services Group
jsowell@pkfod.com | 212.286.2600