Employee Benefits in the Age of COVID-19
The unprecedented upheaval caused by COVID-19 has by now affected every aspect of individual, political, and commercial life. This certainly holds true for workers and their employment-based benefits. While new legislation and executive branch agency guidance has offered some relief, other existing benefits rules continue to apply. This article briefly overviews some of the recent benefits-related legislation and agency guidance and addresses the continued application of several rules that have not changed.
The CARES Act
On March 27, 2020, the President signed the “Coronavirus Aid, Relief, and Economic Security Act” or the “CARES Act.” To date, the CARES Act has provided the most significant benefits relief.
Coronavirus-Related Distributions from Retirement Plans
The CARES Act temporarily allows in-service withdrawals (which it calls “coronavirus-related distributions”) from qualified retirement plans:
- Distributions are limited to a cumulative maximum of $100,000 per participant.
- Distributions are allowed to be treated as coronavirus-related distributions only if made during the 2020 calendar year.
- Distributions will be taxed to participants over three years. The three-year tax rule will apply automatically, but the participant can elect to include the full distribution as taxable income in the first year.
- Distributions can be repaid (in part or in whole) within three years from date of distribution as a rollover back into an eligible retirement plan. There is no requirement that the rollover go back into the same plan from which it was taken. The exact mechanism is unclear at this point, but presumably participants will be allowed to amend their return or will be otherwise be allowed to seek a refund or credit for taxes paid if a re-contribution is made (i.e., if the participant includes the entire distribution as taxable income in the year of distribution, but re-contributes the entire distribution the next year).
- Distributions are exempt from the 10% early withdrawal tax and are exempt from mandatory 20% federal income tax withholding (but still subject to the default 10% federal income tax withholding unless the participant elects no withholding).
- Distributions are available only to a participant (1) who is diagnosed with COVID-19, (2) whose spouse or dependent is so diagnosed, or (3) who experiences adverse financial consequences as a result of (i) being quarantined; (ii) being furloughed or laid off, or having work hours reduced, due to the virus; (iii) being unable to work due to a lack of child care due to the virus; (iv) closing or reducing hours of a business owned or operated by the individual due to the virus; or (v) such other factors determined by the Treasury Department. An employee only needs to certify to the employer that he or she meets one of these conditions; the Act does not contain any substantiation requirement.
- This provision is optional, but, if implemented, will require a plan amendment no earlier than the end of the 2022 plan year.
Additional Retirement Plan Loan Flexibility
The CARES Act further loosens some plan loan rules to allow more flexibility:
- The Act allows an increased limit on new loans made within 180 days following enactment of the Act. The limits on new loans taken during that time are the lesser of $100,000 or 100% of the participant’s vested account balance (normally, the limits are the lesser of $50,000 or 50% of the participant’s vested account balance).
- It also provides (for both existing and new loans) a one-year extension on loan payments that would otherwise be due between enactment and the end of 2020. Under this provision, loans may be re-amortized so later payments are adjusted to reflect accrued interest (which must continue accruing during the one-year reprieve) and the extended repayment schedule. If repayments are deferred due to this provision, the general five-year limit on loans may be extended.
- Participants eligible for loan repayment extensions are the same as those eligible for coronavirus-related distributions described above.
- While the Act says all loan repayments due during the rest of 2020 “shall” be deferred, it seems likely that employers or participants will be given some flexibility on applying this provision.
Waiver of Required Minimum Distributions
The Act also waives required minimum distributions otherwise due in 2020, much like how 2009 RMDs were waived following the 2008 financial crisis:
- Required minimum distributions are waived for defined contribution plans (including 401(k), 403(b), and governmental 457(b) plans) and IRAs. This includes 2020 RMD payments for individuals who already are receiving RMDs and individuals who have to start taking them in 2020 if not already taken (i.e., their first 2019 RMD is due by April 1, 2020).
- There will likely be additional guidance on implementing this provision (similar to the 2009 RMD guidance) that offers different alternatives for applying the waiver.
Tax-Free Employer Student Loan Repayments
Outside of the retirement plan realm, the Act also allows employers to help employees with student loan repayments:
- An employer can make direct student loan repayments that are tax-free to the employee.
- The employer can make payments of both principal and interest either to the employee or directly to the lender. (Note that these payments are not made into a retirement plan like the student loan repayment matching contributions that have been in the news recently.) The repayments may be made from the date of enactment through the end of 2020.
- There are, however, significant conditions on this benefit. The CARES Act amends Section 127 of the tax code, which governs educational assistance programs typically used by employers to provide employees with tuition assistance. The same general rules of Section 127 still apply to these student loan repayments, including (i) a cap of $5,250; (ii) a written plan; (iii) no discrimination in favor of highly paid employees; (iv) no more than 5% of plan benefits going toward shareholders (including spouse/dependents) of more than 5% of the employer; and (v) no employee option to take cash instead of a loan repayment.
Other Benefits Items
The Act makes some other benefits-related changes:
- Compensation restrictions on highly paid employees of employers receiving government loans made available through the CARES Act.
- Health savings accounts (HSAs) may once again be used to purchase over-the-counter medication without a prescription. This provision reverses a change made by the Affordable Care Act. It is effective starting January 1, 2020, and is a permanent change.
- For employers with defined benefit pension plans, all quarterly due dates for contributions in 2020 are extended to January 1, 2021.
- Although not made by legislative changes, the IRS has extended several other deadlines for retirement plan contributions and related items. Further extensions may be granted as circumstances warrant.
Application of Existing Rules
Although the CARES Act and other recent guidance impose new rules on insurers providing group health coverage, there have been few changes in the rules governing employers offering group health coverage.
- For the most part, the same rules continue to apply for employee health insurance coverage. If employees are “furloughed” (i.e., not working on a regular basis, but not terminated from employment), they are still considered employees. If employees are terminated (i.e., not working and officially terminated from employment), they are no longer considered employees. This distinction becomes very important, as described below:
- If employees are furloughed, most group health plans will contain an “actively at work” requirement in the policy that requires employees to work a certain number of hours to maintain eligibility. Continued coverage in this scenario will depend heavily on the terms of any plan documents and policies agreed to by the insurer. Some insurers appear to be relaxing the “actively at work” requirements temporarily, which would allow furloughed employees to continue coverage. When employees are furloughed, unless modified by the employer, any premium payments should continue following the normal employer/employee split.
- If employees are terminated or otherwise lose coverage due to a reduction in hours (for example, the employee is furloughed, but the insurer cancels coverage for not being actively at work), the normal COBRA rules apply. If any employee elects COBRA continuation coverage, the employer can have the employee pay all premiums under the normal COBRA rules or it can subsidize coverage. Note, however, that if a business terminates all employees (i.e., goes out of business by closing completely with no employees remaining), generally, COBRA coverage is no longer available because the group health plan is considered terminated. Employees may still have conversion rights or other options, but employers should work closely with their insurance brokers to make sure any actions taken during a time of crisis do not have larger unforeseen consequences.
- Some insurers are offering a special enrollment period, allowing employees to elect coverage outside of open enrollment to ensure coverage is in place. Some also appear to be offering temporary extended grace periods for some premium payments. Again, it is vital that employers understand what their insurers are offering before taking any action.
Other 401(k) Issues
Like health insurance, most 401(k) rules remain unchanged:
- If employees are furloughed, they may be eligible for the new coronavirus-related distributions, regular hardship distributions, or loans. As noted above, generally, employees who are furloughed have not had a termination of employment.
- If employees are terminated, they become eligible for 401(k) distributions as they otherwise would upon termination. Note that terminating a large portion of employees (as opposed to furloughing them) can cause a “partial termination” of a retirement plan that may require the employer to fully vest all affected participants, regardless of where they are on the plan’s regular vesting schedule.
- Employers will need to review their plan documents to determine the impact of reducing employer contributions. Purely discretionary contributions (e.g., year-end discretionary matching or profit-sharing contributions) effectively can be “eliminated” for the year by the employer choosing at year-end not to make any such contributions. However, if the plan specifies a fixed rate of contribution or match, particularly one made during the course of the year (e.g., a per-payroll matching contribution), the employer may need to amend the plan before reducing or eliminating these contributions. Even if fixed contributions normally are made at the end of the year, employers will need to ensure they are permitted to reduce these year-end contributions as some employees may have already satisfied the plan’s conditions to receive the contribution. Safe harbor contributions present a separate set of complications, and can only be amended during a year under certain circumstances.
We will be monitoring developments in this constantly evolving environment, and anticipate additional guidance and updated practices on many of the issues discussed above. For now, it is critically important to fully consider both the immediate needs and long-term consequences of any benefits-related actions taken.
The contents of this publication are intended for general information only and should not be construed as legal advice or a legal opinion on specific facts and circumstances. Copyright 2023.