Enforcement of ACA employer penalties heats up

Healthcare professionalsThe IRS is sending Letter 226J to enforce the Affordable Care Act’s (ACA) “play or pay” penalties formally known as the Employer Shared Responsibility Penalty (ESRP). On Nov. 1, 2017, the IRS began sending letters advising employers of their potential ESRP for CY 2015 and it continues to send letters. These 226J letters are not assessed penalties, but rather notifications of proposed penalties to employers the IRS believes may have failed to comply with the ACA employer mandate. The IRS initially identified over 32,000 employers who were potentially liable for $4.37 billion in penalties. In addition, the IRS now has the data to begin the analysis to calculate the potential ESRP for 2016 and 2017.

In 2010, the ACA was signed into law and included two mandates – an individual mandate and an employer mandate. The Tax Cuts and Jobs Act of 2017 repealed the individual mandate penalty starting in 2019. The employer mandate is still in effect.

The employer mandate requires employers to offer health coverage that is both affordable and provides a minimum value to their full-time employees and their children up to age 26, or be subject to penalties. In 2015, only “Applicable Large Employers” (ALEs) with 100 or more full-time and full-time equivalent employees (lowered to 50 for subsequent years) are subject to the penalties.
The employer mandate include two penalties:
  • Penalty A or Code 4980H(a) penalty: Invoked if an ALE fails to offer minimum essential coverage to at least 70% of its full-time employees in 2015 (95% in subsequent years). The penalty is calculated on a monthly basis based on 1/12 of $2,000 (indexed) multiplied by the total number of full-time employees, minus 80, in 2015 (minus 30 in subsequent years).
  • Penalty B or Code 4980H(b) penalty: If an ALE meets the requirements necessary to avoid Penalty A in a given month, but the coverage offered is not “affordable” or does not meet “minimum value” requirements, the employer is subject to Penalty B for each full-time employee who receives a tax subsidy or credit from the ACA’s Health Insurance Marketplace. The amount of the penalty is calculated on a monthly basis based on 1/12 of $3,000 (indexed) multiplied by each full-time employee who received a tax subsidy from the Insurance Marketplace.

Starting for the calendar year 2015, ALEs prepared Forms 1094-C and 1095-C to report on their compliance with ACA to both their employees and to the IRS. Form 1095-C was sent to employees and provided information on health coverage, including the offer of coverage, type of coverage, employment status, affordability and other related information. Form 1094-C was the transmittal form that includes information at an employer level – including the offering minimum essential coverage, number of employees, and members of the employer’s controlled group.

Act quickly if you receive the letter  IRS Letter 226J is the initial letter issued to ALEs notifying them they may be liable for an ESRP. This is based on information from Forms 1094-C and 1095-C filed by the ALE and the individual income tax returns filed by the ALE’s employees. The letter includes the ESRP Summary Table that identifies the month in which a Penalty A or B applies, as well as Forms 14764 and 14765, which are the documents an ALE can use to respond to the IRS finding.
Employers will complete Form 14764 ERSP Response to indicate if they agree or disagree with the proposed assessment of the ERSP, and to select a payment option, if appropriate, as well as designate an authorized person or representative. Form 14765 Employee Premium Tax Credit Listing lists certain employees with their 2015 Line 14 and 16 indicator codes and whether a premium tax credit (PTC) was obtained. This listing is the basis for a Penalty B for the specific month. This listing is the basis for a Penalty B for the specific month. The IRS Letter 226J includes specific instructions how to respond. The response would include completed Forms 14764 and 14765 and, if appropriate, supporting documentation.

Once the IRS completes its review of the employer’s response, the IRS will respond by sending a Letter 227 to either close the ESRP inquiry or provide the next steps. There are five different 227 letters stating that 1) the original ESRP will be assessed (227-J), 2) the ESRP will be reduced to zero (227-K), 3) a revised PTC listing for further review (227-L), 4) the original ERSP did not change with a updated PTC listing (227-M), and 5) the results of an appeal (227-N), if appropriate.

Employers should take prompt action upon receipt of a Letter 226J. The response is due 30 days after the letter’s date. If needed, employers can call the IRS to request an extension for additional time to respond. The IRS routinely gives 30-day extensions to these requests. Then, employers should review the letter and compare its findings to 2015 Forms 1094-C and 1095-C. For Penalty A, employers should review their response on the 1094-C, Part III, Column A if they offered minimum essential coverage. For Penalty B, employers should review Form 14765, identify the months in which a penalty was assessed, and determine if the original indicator codes were correct. If the indicator codes were incorrect, the revised codes should be added to the second row.

Penalties may be reduced Many employers are overwhelmed at the size of a proposed ESRP. As noted above, employers are subject to either the Penalty A or B for each month. Since the Penalty A is assessed against all full-time employees, the penalty amounts can be very large.
We have found that in most cases, the proposed penalties can be significantly reduced because the employer (and vendors) filed incorrect 2015 Forms 1094-C and 1095-C. We see several common errors assisting clients with Letter 226J penalties, including these:

  • Form 1094-C did not state minimum essential coverage was offered.  As a result, Penalty A was assessed.
  • Form 1095-C’s Line 14 and 16 coding was incorrect and, as a result, the employer was assessed Penalty B if the employee received a premium tax credit.

If no changes have been made in your filings for 2016 and 2017, you can expect to receive additional letters from the IRS proposing a penalty for those years as well.

The penalties proposed in the IRS Letter 226J penalties can be large, but a careful response can significantly lower or reduce the penalties to zero (assuming the facts and circumstances allow). Maintaining the appropriate records is critical.

Your Form 1094-C and 1095-C filings need to be accurate to avoid receiving IRS Letter 226J. If you receive an IRS Letter 226J, your response should be accurate and apply the ACA employer mandate requirements to your situation. Your tax advisor can assist you in preparing a Letter 226J response by properly applying your situation to the ACA, regulations, and form requirements.

Carl Mowery
Managing Director
Human Capital Services
T +1 312 602 9147

Andy Mechavich
Human Capital Services
T +1 312 602 8167

Tax professional standards statement
This content supports Grant Thornton LLP’s marketing of professional services and is not written tax advice directed at the particular facts and circumstances of any person. If you are interested in the topics presented herein, we encourage you to contact us or an independent tax professional to discuss their potential application to your particular situation. Nothing herein shall be construed as imposing a limitation on any person from disclosing the tax treatment or tax structure of any matter addressed herein. To the extent this content may be considered to contain written tax advice, any written advice contained in, forwarded with or attached to this content is not intended by Grant Thornton LLP to be used, and cannot be used, by any person for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

The information contained herein is general in nature and is based on authorities that are subject to change. It is not, and should not be construed as, accounting, legal or tax advice provided by Grant Thornton LLP to the reader. This material may not be applicable to, or suitable for, the reader’s specific circumstances or needs and may require consideration of tax and nontax factors not described herein. Contact Grant Thornton LLP or other tax professionals prior to taking any action based upon this information. Changes in tax laws or other factors could affect, on a prospective or retroactive basis, the information contained herein; Grant Thornton LLP assumes no obligation to inform the reader of any such changes. All references to “Section,” “Sec.,” or “§” refer to the Internal Revenue Code of 1986, as amended.