Taxpayers (Including Employers) Have the Right to Challenge the IRS
The IRS has a Taxpayer Bill of Rights, which includes a section stating every taxpayer’s “right to challenge the IRS’s position and be heard.” These fundamental rights apply to all taxpayers, including employers, even during the COVID-19 pandemic.
As noted in IRS Tax Tip 2020-171 (issued December 15, 2020), taxpayers have the right to:
- Raise objections
- Provide additional documentation in response to formal or proposed IRS actions
- Expect the IRS to consider their objections timely
- Have the IRS consider any supporting documentation promptly
- Receive a response if the IRS does not agree with their position
One area that employers should take careful note of regarding the IRS is, of course, compliance with the Affordable Care Act (ACA). The ACA’s Employer Mandate requires Applicable Large Employers (ALEs) (employers with 50 or more full-time, or full-time equivalent, employees) to offer Minimum Essential Coverage that is affordable and meets Minimum Value to at least 95% of their full-time workforce and their dependents or be subject to penalties.
Failure to offer such coverage can lead to an employer receiving penalty notices from the IRS, such as IRS Letter 226J, Letter 5005-A, Notice CP220J, and Letter 5699. Let’s take a closer look at what each of these notices entails:
- Letter 226J is a penalty notice issued by the IRS to an ALE that the IRS identifies as having failed to comply with the Employer Mandate and at least one of the ALE’s full-time employees received a Premium Tax Credit (PTC) from a state or federal health exchange. The IRS is currently issuing this penalty notice for the 2018 tax year. Yet, even prior reporting years are fair game for the IRS as there is no statute of limitations for ACA penalties under Internal Revenue Code 4980H.
- Letter 5005-A is a penalty notice issued to an ALE that the IRS identifies as having failed to file annual ACA forms 1094-C and 1095-C with the IRS and/or failed to furnish Form 1095-C to the applicable full-time employees under IRC Section 6056.
- Notice CP220J is a letter from the IRS assessing an Employer Shared Responsibility Payment (ESRP). Notice CP220J represents an escalation in enforcement activity by the IRS, as this notice demands payment of the ESRP after evaluating the employer’s response to an IRS Letter 226J and determining that the employer still owes the ESRP.
- Letter 5699 is an IRS warning notice sent to employers as a precursor to ACA penalty assessments. Letter 5699 asks an employer to confirm the filing details specific to their operations, such as the Employer Identification Number and the date of filing.
When receiving such notices, ALEs will need to respond quickly under the rights noted above. Here are a few of the key areas in which the employer will need to show that it is in compliance:
During an IRS audit. During a thorough examination, the ALE has the burden to prove that it offered Minimum Essential Coverage to 95% of its full-time employees. It can be challenging for the ALE to prove that some or all of its employees should not be counted as full-time, but in order to do so, the ALE must be able to prove that it has correctly identified its full-time employees, which often involves conducting the IRS approved Look-Back Measurement Method.
Making sufficient offers of coverage. The ALE will also need to show that it made the offers of coverage to all applicable employees promptly. Unless the ALE is going to concede that each employee should have been offered coverage for every month of the reporting year, the ALE must prove that for the months that specific employees were not offered coverage there was an applicable exclusion under the IRS regulations. This could include the hire/release date of the employee and the applicability of various limited non-assessment periods.
So how does the ALE go about proving the above? Documentation is critical. Regardless of whether the Monthly Measurement Method or the Look-Back Measurement Method was used to determine the full-time status of employees, the ALE will need to provide documentation of how the measurement method was applied and that it was applied correctly under the IRS regulations, including the timing of the offer of coverage. Moreover, the ALE will need to provide documentation justifying the application of any limited non-assessment periods.
If this sounds like a Herculean effort for which few ALEs are prepared, that’s because it is. Fortunately, employers (like individuals) need not face the IRS on their own. Organizations can enlist an ACA compliance specialist to create effective, cost-reducing responses to IRS penalty notices (as well as to do the upfront work involved to reduce the chance of receiving an IRS notice in the first place).
To find out more about best practices for dealing with the IRS, including ACA compliance, and minimizing costly IRS penalties, download The 2021 ACA Essential Guide for Employers.
Undertaking an ACA Penalty Risk Assessment can tell you if your organization is at risk of receiving ACA penalties from the IRS.
