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IRS Letters 226J: Having the Right Section 4980H Records Can Be Worth a Small Fortune

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As reported in our 2018 End of Year Plan Sponsor “To Do” List (Part 1) Health & Welfare, the Section 4980H penalties are still in effect and the IRS is enforcing them.  Employers continue to receive Letters 226J, which the IRS uses to propose employer shared responsibility payments. During the Letter 226J process, the IRS has been allowing employers to challenge proposed penalties and to correct reporting errors. However, the IRS will not necessarily accept an employer’s word at face value.

Recordkeeping is key

One of the biggest problems employers may face is finding records to prove they satisfied the 95% offer of coverage test (to avoid the subsection (a) penalty) or that they offered a specified employee minimum value affordable coverage (to avoid the subsection (b) penalty).  The IRS has not provided specific guidance about records that must be kept to prove offers of coverage.  Instead, the general substantiation and recordkeeping requirement of Code Section 6001 apply, including IRS Revenue Procedure 98-25.  It also doesn’t help that there is a significant lag between the time offers of coverage are made and the assessment of penalties.  It’s 2019 and the IRS is currently issuing Letters 226J that relate to the 2015 and 2016 calendar years.  For employers using the look-back measurement method to determine full-time employee status, records going back into 2013 may be required to defend against Section 4980H penalties for the 2015 calendar year.

Changing vendors adds a wrinkle

Employers who use payroll vendors or reporting vendors may have additional problems when it comes to defending against Section 4980H penalties, especially if they have changed vendors during or after the periods in question.  Some vendors may be slow to respond to a record request for a former client.  Other vendors may have destroyed pertinent records.  Upon changing vendors, it is important to know how long the former vendor will retain supporting records.  However, when changing vendors, it might be safer for employers to obtain all the records they might need, for all years, in the event they are assessed a Section 4980H penalty down the road.

Records that might be needed

Employers should give careful consideration to all potential records that might be needed to defend against penalties.  Some of the Section 4980H records employers should retain, especially when changing vendors, include:

  • Vendor and/or employer communications showing a qualifying offer of coverage was made, and to whom, for the 2015 to 2019 calendar years (i.e., open enrollment materials for those years and new hire offers);
  • Employee waivers of coverage for those years;
  • Forms 1094-C and Forms 1095-C for all years;
  • Confirmation of enrollment information from health insurance companies;
  • Monthly tests and data showing the employer satisfied the 95% test (70% for the 2015 calendar year) for each month beginning January 1, 2015;
  • Monthly measurement method and look-back measurement hours of service data, including full-time employee reports for each month;
  • Premium and wage information (to prove affordability);
  • Vendor onboarding questionnaires and materials from initial reporting set up, including information about specifics of the look-back measurement method.

Many employers who thought they easily satisfied Section 4980H find themselves having to defend against Section 4980H penalties.  In doing so, having the right records could be worth a small fortune.