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How do employers prove to the IRS that the healthcare plans they are offering to their workforce are affordable under the ACA?
It’s an important question for Applicable Large Employers (ALEs), employers with 50 or more full-time and full-time equivalent employees. That’s because providing affordability is a critical piece for complying with the ACA’s Employer Mandate and failing to do so could result in penalties via IRC Section 4980H(b), currently being issued by the IRS via Letter 226J.
Fortunately, the IRS has made available three affordability safe harbors that employers can use to help prove ACA affordability. And with the final 2022 ACA reporting deadline approaching quickly, now is the time to ensure you’re correctly applying and documenting the safe harbors in your filings.
To begin, the three safe harbors employers can use when proving ACA affordability to the IRS are the Rate of Pay, W-2, and Federal Poverty Line (FPL).
Below we have outlined the three safe harbors and provided general formulas to help you calculate ACA affordability accurately.
Rate of Pay Safe Harbor
The Rate of Pay Safe Harbor is a method for proving ACA affordability that is based on an employee’s hourly rate or monthly salary rate. Best practices suggest performing the safe harbor calculation for each full-time employee monthly.
To calculate ACA affordability for the 2023 tax year under the Rate of Pay Safe Harbor using hourly workers’ earnings, take the employee’s lowest hourly rate as of the first day of the coverage period and multiply it by 130, the minimum total of hours an employee must work on average to be ACA full-time.
Take that product and multiply it by the 2023 affordability threshold, 9.12%. This will identify the maximum monthly contribution that the employee can pay to satisfy 2023 ACA affordability.
Take, for example, ($20/hr x 130 hours) x 9.12% = maximum monthly contribution of $237.12.
For this particular situation, to claim the Rate of Pay Safe Harbor using hourly wages, the monthly contribution cannot exceed $237.12.
For a salaried employee, take the monthly salary as of the first date of the coverage period and multiply it by the appropriate affordability percentage for the year.
Here’s an example: $2,000 monthly salary x 9.12% affordability threshold for 2023 = maximum monthly premium of $182.40 to claim the Rate of Pay Safe Harbor.
W-2 Safe Harbor
The W-2 Safe Harbor is a method for proving ACA affordability that involves the use of an employee’s W-2 Box 1, gross income. To calculate ACA affordability using the W-2 Safe Harbor, use the following formula: W-2 Box 1 Wages multiplied by 9.12% with an adjustment for partial year coverage.
Here’s an example: Jonny Oswald earns an annual salary of $50,000 as a manager at Parker’s Pizza. Jonny worked at Parker’s Pizza for 9 out of the 12 months during the 2023 tax year. He received an offer of coverage on his first day of employment. So here’s the calculation: $50,000 x 9.12% = $4,560.
Next, multiply $4,560 by the product of the number of months of coverage offered (9) by the total number of months in the year for partial coverage (9/12): $4,560 x (9/12) = $3,420.
$3,420 is the maximum annual amount that Jonny’s employer can make him pay for self-only coverage. To find out the amount per month, divide the total by the number of months Johnny received coverage (9). This will get you $380 per month: $3,420 / 9 = $380.
FPL Safe Harbor
The Federal Poverty Line (FPL) Safe Harbor is a method for proving ACA affordability that is based on an employee’s annual household income, which is a function of that employee’s household size and is adjusted on an annual basis.
Each year, the Department of Health and Human Services (HHS) publishes the annual FPL. For the 2023 tax year, the 2023 mainland FPL for a household size of one is used.
To calculate the FPL Safe Harbor, take the 2023 mainland FPL for a household size of one, $14,580, and multiply it by 9.12%, the 2023 affordability threshold Next, divide the product by 12:
Here’s the 2023 FPL Safe Harbor formula: ($14,580 x 9.12%) / 12 = $110.81
If the employee contribution for self-only coverage meets or is below $110.81 per month then the FPL Safe Harbor is met and the coverage offered is affordable for the 2023 tax year.
ALEs should note that the FPL Safe Harbor is arguably the simplest to administer because contribution rates can be standardized across entire employee groups. However, using the FPL Safe Harbor for providing ACA affordability may cost ALEs more due to the monthly premium contribution amount for employees being lower than calculating individual contributions on a per-employee basis.
Plan nuances that may impact affordability
There are a number of considerations that can affect the affordability of a plan. Opt-out payments, wellness plans, flex credits, and Health Reimbursement Arrangements (HRAs) are some of the more common considerations that may either increase or decrease the affordability of an employer-sponsored health plan.
If your organization has components like these, you may want to seek an outside expert to help you make sure that the contributions identified on Line 15 of Form 1095-C are accurate.
Choosing an IRS safe harbor for proving ACA affordability can be difficult, but employers should know that they do not need to apply one safe harbor across their entire workforce and should choose what makes the most sense for their organization.
If you’re interested in learning more about ACA safe harbors, including real-world examples, and which safe harbor method may be best for your organization, download the Safe Harbor Playbook for Calculating ACA Affordability.
Implementing safe harbors when administering your health plan is one thing. Communicating this information to the IRS is another. In fact, if you successfully set up your affordability safe harbors for an applicable tax year but incorrectly code them on the 1095-Cs, you could be subject to IRS penalty assessments and the onus will fall on you for proving otherwise.
To learn more about coding ACA affordability on the 1095-C forms, download the Employer’s Guide to Coding ACA Form 1095-C below:
Missing an ACA filing or furnishing deadline could land your organization a significant penalty from the IRS. To ensure you never miss one, download the ACA 101 Toolkit, which documents the various federal and state reporting deadlines.
