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    ESOPs & Employee Benefits Q3 2023 Client Update

    By ESOPs, Benefits & Compensation

    As summer turns to fall, the employee benefits landscape continues to evolve. A few of our thoughts on recent updates are below. Also be on the lookout over the coming weeks for a separate guide to SECURE 2.0 provisions that begin to take effect in 2024.

    As always, feel free to reach out to a member of our ESOPs & Employee Benefits practice group to discuss these topics or any other issues that may be on your mind.

    IRS Delays SECURE 2.0 Mandatory Roth Catch-Up Rules

    Following months of entreaties from industry groups, the IRS announced in late August that it would delay the effective date of the SECURE 2.0 rule mandating Roth catch-up contributions for high earning employees. As a brief background, this rule requires that all catch-up contributions by high earners (which it defines as employees earning over $145,000 in the prior year) be made on an after-tax Roth basis. While these participants’ elective deferrals up to the regular annual limit can still be pre-tax, all catch-up contributions must be post-tax. Although a seemingly simple rule, it presents a number of implementation and compliance challenges for which no guidance has been issued.

    The mandatory Roth catch-up rule was initially scheduled to take effect in 2024. However, the IRS delayed the effective date by two years, meaning the rule will begin to apply in 2026. Hopefully, this will give the IRS enough time to provide guidance and give employers and plan recordkeepers enough time to implement these changes.

    For now, though, catch-up contributions by high earners may still be made pre-tax.

    2024 Will See Lowest-Ever ACA Affordability Percentage

    Also in late August, the IRS released the annual Affordable Care Act percentage used to calculate whether a large employer’s offer of health insurance under the ACA is “affordable.” For 2024, the new affordability percentage is 8.39%, by far the lowest rate since the ACA was enacted, and down from the current 2023 rate of 9.12%. Generally, the affordability percentage will decrease as premiums increase faster than incomes.

    The annual affordability percentage is important because it determines how much employees can be required to contribute to their coverage. If an employee is required to contribute too much under this standard, the employer could be penalized under the ACA’s severe enforcement rules.

    For 2024, the new affordability standard means that an employee cannot be required to pay more than 8.39% of their household income toward the lowest-cost self-only coverage offered by the employer. The three safe harbor standards that employers may use instead of the employee’s household income—W-2, rate of pay, and federal poverty level—are similarly tied to the 8.39% affordability percentage. Employers should begin planning now to ensure that their employees’ 2024 contribution rates will meet this new standard, which in many cases will require reducing the maximum amount that may be charged for coverage.

    DOL Provides Updates on SECURE 2.0 Employee Ownership Initiatives

    The Department of Labor has also been busy this summer with its own share of SECURE 2.0 directives. Among many other responsibilities imposed on the DOL by SECURE 2.0, two in particular revolve around ESOPs and other forms of employee ownership.

    One requires the DOL to finalize rules governing proper valuation methods for ESOPs. A historically uncertain standard—due in large part to the DOL’s failure to issue concrete guidance over the course of several decades—has led to so-called “regulation by litigation” and a lack of consistent standards for valuing stock acquired by an ESOP. The DOL apparently is moving the process along fairly quickly and is anticipating publishing guidance before the end of 2023.

    The other requires the DOL to establish an employee ownership initiative within the DOL to make grants to state-based employee-ownership programs and to act as a central reference for research and techniques. In response, the DOL created a new Employee Ownership Division to fulfill this mission. According to the press release announcing its creation, the new division will be:

    • Supporting existing programs designed to promote employee ownership and facilitating the formation of new programs;
    • Developing a clearinghouse of techniques applied by new and existing state programs and sharing information about these techniques with states;
    • Providing education, outreach, and training to inform employees and employers about the possibilities and benefits of worker ownership and business ownership succession planning; and
    • Providing technical assistance for employees’ efforts to become business owners and helping employers and employees explore the feasibility of transferring full or partial ownership to employees.

    Although much remains to be seen in how these functions will roll out and evolve over time, the last few months have seen welcome progress on both fronts.

    Recent Court Rulings Remind Employers to Check Severance and Welfare Plan Determination Language

    Finally, although not breaking any new ground, a trio of recent cases provides a great reminder of the importance of written plan terms in severance and other similar welfare plan documents.

    While the facts and benefits involved differed in each case, all three centered on a similar issue: What standard applies when a court reviews an employer’s benefits eligibility decision? One could be forgiven for glossing over this question as a legal technicality that only matters when an employer is sued, but taking steps to answer that question before getting sued can limit, or avoid, a dispute altogether.

    In the first case, the employer’s plan document said that the “Benefits Committee” was authorized to review and decide long-term disability claims. However, the company’s “Benefits Department” actually reviewed and decided the employee’s claim. Although there was some overlap between the Benefits Committee and the Benefits Department, there was not enough overlap to provide a quorum of the Benefits Committee at a meeting of the Benefits Department. The plan document also allowed the Benefits Committee to request that the Benefits Department “assist” the Benefits Committee but did not delegate any authority to the Benefits Department to rule on claims. When the employee’s claim for benefits was reviewed by the court, because the wrong group of individuals decided the employee’s claim—even though all the individuals worked in the Benefits Department of the same company as the Benefits Committee—the court reviewed the employee’s claim in its entirety, using the court’s own judgment and not deferring to the company’s determination. Under that standard, even though the company had arguably legitimate reasons for the claim’s denial, the employee’s claim succeeded.

    In contrast, the other two cases involved employee severance pay plans. In one case, the plan named a person who had the discretion to decide claims and allowed that person to delegate her discretionary authority; she explicitly delegated her authority to another employee in writing. The court upheld the company’s denial of severance benefits to a terminated employee even after the company fired the employee for “poor job performance” when the company hired the employee for one role and moved her to a completely different role—for which she had no experience—in her first few weeks of work. Despite those facts, the judge ruled that the company’s decision had a legitimate basis and shouldn’t be second-guessed, a much different outcome than the first case.

    The final case involved a company’s severance plan that based eligibility for severance benefits on whether or not the company’s HR staff gave a written memo authorizing severance pay to each specific employee. The court read this condition literally—again, because the company had the reserved the discretion to determine who received benefits and followed the written plan terms—and ruled that anyone who was not given a severance memo was ineligible for severance benefits even if they met all the other conditions in the severance plan.

    These differing outcomes—in favor of the employee, even where there was a valid reason for denial; in favor of the employer, even though the facts suggested the employer’s decisions may have been reversed using a different standard of review—highlight the importance of ensuring benefit plan documents and actual operations align and that both provide the individuals making decisions with the latitude they assume they have.


    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 2024.