NLRG PARTNERING WITH YOU ON TRENDS AND BEST PRACTICES TO SUPPORT YOUR HUMAN RESOURCES INITIATIVES COBRA ADMINISTRATION: AN EMPLOYER GUIDE

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NLRG

PARTNERING WITH YOU ON TRENDS AND BEST

PRACTICES TO SUPPORT YOUR HUMAN RESOURCES INITIATIVES

COBRA ADMINISTRATION:

AN EMPLOYER GUIDE

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COBRAADMINISTRATION: AN EMPLOYER GUIDE

COBRA

ADMINISTRATION: AN EMPLOYER GUIDE

SECTION

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Introduction

• What is COBRA

• Other Continuation Coverage Law

• COBRA Notices

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What Guidance Controls COBRA Administration? 3

To Which Entities Does COBRA Apply?

• Employers Subject to COBRA

• Employers’ Responsibilities

o Responsibility for Related Companies o Responsibility for Predecessor Companies o Impact of Insurer Refusing Coverage

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What are the Basic COBRA Requirements? 6

Which Group Health Plans are Subject to COBRA?

• How Many “Plans”?

o Identifying Group Health Plans

• Plans That May Be Exempt from COBRA (or Portions of COBRA) o Plans Exempt from COBRA Requirements

o Small-Employer Plans

 Definition of “Employer”

• Effect of Foreign Ownership

 Normal Employment Levels

 Which Employees Count?

 Small Employer and Multi-Employer Plans

 Small Employers and MEWAs

 Ceasing to be a Small Employer o Government Plans

o Church Plans o Voluntary Benefits o Long-Term Care Plans

o Archer Medical Savings Accounts and Health Savings Accounts

o Cafeteria Plan Health Flexible Spending Arrangements

 COBRA Available Only During Plan Year of Qualifying Event

• Two Conditions for Health FSA Limited Exemption to Apply

 No COBRA Required for Some Qualified Beneficiaries

 Dividing a Health FSA Balance

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Who Can Be Qualified Beneficiaries?

• Practical Effect of Qualified Beneficiary Status

• Who Are Qualified Beneficiaries?

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• Who Are Covered Employees?

• Qualified Beneficiaries Can Add Non-Qualified Beneficiaries to Their COBRA Coverage

o Qualified Beneficiaries Can Add Dependents at Open Enrollment

o Qualified Beneficiaries Have HIPAA Special Enrollment Rights

o Dependents Added to COBRA Coverage Usually Are Not Qualified Beneficiaries

• Exceptions to the Coverage Rule

o Covered Employees’ New Children

o Coverage Reduced or Eliminated in Anticipation of a Qualifying Event

o Coverage Denied, Not Offered, or Terminated in Violation of Law

• Who Cannot Become a Qualified Beneficiary?

• Mistaken Designation of Qualified Beneficiary Status

What are Qualifying Events and How Do They Impact the Length of COBRA Coverage?

• Specified Events

o Events That Can Be Qualifying Events

• Loss of Coverage

o Non-Qualifying Events

 Medicare Entitlement is Seldom a Qualifying Event

 Legal Separation Usually is Not a Qualifying Event o Date of Qualifying Event

 Effect of Rescission Prohibition on Date of Qualifying Event

o Determining Whether an Event Causes Loss of Coverage

 Deemed Loss of Coverage

 Reduction/Elimination of Coverage in Anticipation of a Qualifying Event

 Coverage Denied, Not Offered, or Terminated in Violation of Applicable Law

o Multiple Qualifying Events

 What Events Can Trigger the Multiple Qualifying Events Extension?

• Second Qualifying Events o Gross Misconduct

o Bankruptcy

o Ceasing Contributions to a Multi-Employer Plan

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What COBRA Notices are Required?

• Overview of COBRA Notices o Outgoing COBRA Notices

 Outgoing COBRA Notices for Which DOL Regulations Set Requirements

o Incoming COBRA Notices

 Incoming COBRA Notices for Which Plans Must Adopt Reasonable Procedures

• Initial Notice of COBRA Rights o Timing of Initial Notice o Initial Notice Recipients

 Sending a Single Initial Notice o Form of Initial Notice

 Conditions for Providing Initial Notice as Part of SPD o Content of Initial Notice

 Information that Must Be Included in Initial Notice of COBRA Rights

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 Using the DOL Model o Method of Delivery

o Failing to Provide Initial Notice as Required

• COBRA Rules on SPD Content

o SPD Content Rules Require COBRA Information

• COBRA Qualifying Event Notices o Note Regarding Terms

o Employer’s Qualifying Event Notice

 Qualifying Events Requiring Notice from Employer to Plan Administrator

 Important Exemption from Employer’s Qualifying Event Notice Obligations

o Other Qualifying Event Notices

 Importance of Specifying Plan’s Qualifying Event Notice Period

 Reasonable Qualifying Event Notice Procedures

• Criteria for Determining Whether Qualifying Event Notice Procedures are Reasonable

 Date of Qualifying Event Notice

o Other Situations Requiring Reasonable Notice Procedures

• Notice of COBRA Unavailability

o Unavailability Notice Recipients

 Sending a Single Unavailability Notice o Other Situations for Unavailability Notice

 Additional Situations requiring Unavailability Notice o Delivery of Unavailability Notice

o Failing to Provide Unavailability Notice as Required

• COBRA Election Notices

o Timing of Election Notice

 Qualifying Events that Employer/Plan Administrator Must Track

o Required Recipients of Election Notice

 Sending a Single Election Notice o Content of Election Notice

 Information that Must Be Included in COBRA Election Notice

 Using the DOL Model o Delivery of Election Notice

o Failing to Provide Election Notice as Required

• Notice of Early Termination of COBRA Coverage o Early Termination Notice Recipients

 Sending a Single Early Termination Notice o Delivery of Early Termination Notice

o Failing to Provide Early Termination Notice as Required

• COBRA Notice Distribution Procedures

o Important Caveat about Relying on Third Party Administrator’s Documentation

o Acceptable Means of Sending COBRA Notices

 Why In-Hand Delivery May Not Be the Best Distribution Option for COBRA

o Documenting Mailing of Notices

 Certificate of Mailing

 Documented Mailing Procedures

• Using Business Practices to Show that a Particular COBRA Notice Was Sent How Are COBRA Elections Administered?

• Importance of Specifying Plan’s Election Period

• Postmarks Are Important When Administering COBRA Elections

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• Advising Qualified Beneficiaries Whether to Elect

• Independent Election Rights

• Elections Deemed Made for All Qualified Beneficiaries

• Third-Party COBRA Elections

• Incapacitated Qualified Beneficiaries

• Waivers

What is the Duration of COBRA Coverage?

• 36-Month Qualifying Events

o Qualifying Events for Which the Maximum COBRA Coverage Period is 36 Months

o A Note Regarding Medicare Entitlement

• Rules Extending 18-Month Continuation Period

o Three Rules that Extend the Maximum COBRA Coverage Period

o Effect of Medicare Entitlement Occurring Before Qualifying Event

o Disability Extension

 Conditions for the Disability Extension

 Notice Requirements for Extension Due to Disability

• Criteria for Determining Whether Disability Notice Procedures are Reasonable

 Date of Disability Notice

 Notice of Unavailability Response to Disability Notice

 Termination of the Extended Period

 Increased Premium o Second Qualifying Events

 Second Qualifying Event Must Cause Loss of Coverage

 Notice Requirements for Extension Due to Second Qualifying Event

• Criteria for Determining Whether Second Qualifying Event Notice Procedures are Reasonable

• Importance of Specifying Plan’s Second Qualifying Event Notice Period

 Notice of Unavailability Response to Second Qualifying Event Notice

 Date of Second Qualifying Event Notice

• Employer Bankruptcy Continuation Period

• Newborn and Adopted Children

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What Type of Coverage Must Be Offered?

• Offering Identical Coverage

o Number of Plans Offered and Effect

 Determining Coverage in Effect

 When Having Several Separate Plans Matters

 Determining the Number of Separate Plans Providing Benefits

• Conditions for Separate Plans o COBRA Coverage During the Election Period

 Indemnity or Reimbursement Plans

 Plans That Provide Services o Information to Health Care Providers o Deductibles, Copayments, and Plan Limits

 Health Reimbursement Arrangements

• Changes to COBRA Coverage

o Relocation of a Qualified Beneficiary

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COBRAADMINISTRATION: AN EMPLOYER GUIDE o Changes Qualified Beneficiaries Can Elect

 Changes at Open Enrollment

 Election Changes at HIPAA Special Enrollments

 Mid-Year Changes Due to Changes in Status o Alternatives to COBRA Coverage

 State Continuation Coverage Requirements What are the Requirements Related to COBRA Premiums?

• Determining the Applicable Premium

o Advance Determination of Applicable Premium

o No Changes to Applicable Premium During Determination Period

 Premium Changes Do Not Change Applicable Premium

o Applicable Premium for Family Groups

o COBRA Premiums When Disability Extension Occurs

o Using COBRA Applicable Premium for Form W-2 Reporting of the Cost of Health Coverage

• Applying the Applicable Premium

o When a Qualified Beneficiary’s Applicable Premium Can Change

• Timely Payment Requirement

o Insignificantly Less Than Full Payment

• Pretax Payment of COBRA Premiums

• Payment of COBRA Premiums by a Third Party

• State Assistance for Payment of COBRA Premium

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How is COBRA Administered During Leave?

• Family and Medical Leave Act

• Military Leaves

• Other Leaves

• Other Considerations

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How is COBRA Administered with Business Reorganizations, Mergers and Acquisitions?

• Groups Affected by the Transaction

• Transaction as a Qualifying Event o Existing COBRA Beneficiaries o Non-Transferring Beneficiaries o Transferring Beneficiaries

 Asset Transaction or Stock Transaction?

• Definitions – Stock Transaction and Asset Transaction

 Transferring Beneficiaries in a Stock Transaction

 Transferring Beneficiaries in an Asset Transaction

• Exceptions to the General Rule

• General Rule: Seller Provides COBRA o Exceptions to General Rule

• Contractual Allocation of COBRA Responsibility

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How Does Continuation Coverage End?

• Reasons for Terminating COBRA Coverage

• “For Cause” Termination

• COBRA and Other Coverage Situations

o Ending COBRA Due to Medicare Entitlement

o Ending COBRA Due to Other Group Health Coverage

 TRICARE (Formerly CHAMPUS)

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o Tips on Compliance with Medicare and “Other Coverage”

Rules

What is Conversion? 71

What Are the Penalties for COBRA Violations?

• Excise Tax Reporting Requirement

71 What are the Effects of HCTC on COBRA Election Rights?

• Protections Provided

• Eligible Qualified Beneficiaries

• Sixty-Five Percent COBRA Premium Tax Credit o HCTC Can Take Two Forms

• COBRA Election Period and New 18-Month Period

• HIPAA 63-Day Break in Coverage Rule Waived

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How does PPACA Coordinate with COBRA? 74

APPENDIX

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Definitions

• COBRA

• Continuation Coverage

• Conversion Coverage

• Covered Employee

• Employer

• Group Health Plan

• Health Care

• Loss of Coverage

• Medicare Entitlement

• Qualified Beneficiary

• Qualifying Event

• Termination of Employment

SUPPORTING EMPLOYER TOOLS

 DOL Model General Notice of COBRA Rights

 Sample Initial Notice of COBRA Continuation Coverage Rights

 Sample Combined Initial Notice of COBRA Rights and Summary of Material Modifications

 DOL Model Election Notice of COBRA Rights

 Sample Election Notice (Covered Employee’s Termination of Employment or Reduction in Hours)

 Sample Election Notice (Covered Employee’s Divorce, Legal Separation, Medicare Entitlement, or Death or Dependent Child’s Ineligibility)

 Sample Notice of Unavailability of COBRA Coverage (or Extension of COBRA Coverage for a Second Qualifying Event)

 Sample Notice of Extended COBRA Coverage

 Sample Notice of COBRA Coverage Ending Due to Passage of Time

 Sample Notice of Early Termination of COBRA Coverage

 Sample COBRA Coverage Coupon Billing Form

 Sample Notice of Qualified Beneficiary’s COBRA Coverage Status

 Sample Policy on Shortages in COBRA Payments

 Sample Notice of Insignificant Shortage Payment for COBRA Coverage

 Sample USERRA Language

 Sample Notice of Employee Voluntarily Dropping Coverage

 Applicable Premium Chart

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 IRS – Notice 98-12: Deciding Whether to Elect COBRA Health Continuation Coverage After Enactment of HIPAA

 Sample Letter Advising Insurer of COBRA Responsibilities

 U.S. Department of Labor – Employment and Training Administration TAA Program

RELATED EMPLOYER GUIDES AND TOOLS

 USERRA: An Employer Guide

 Medicare Secondary Payer: An Employer Guide

 ERISA Disclosure: An Employer Guide

 ERISA Reporting: An Employer Guide

 Cafeteria Plans: An Employer Guide

 HIPAA Portability Compliance Manual

 COBRA Frequently Asked Questions

Updated: July, 2015

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 1

INTRODUCTION

WHAT IS COBRA?

COBRA refers to a federal law that requires a group health plan to provide continuation coverage when plan coverage would otherwise end because of a life event known as a “qualifying event.” Under COBRA, an individual who might otherwise lose coverage under a group health plan can pay to continue that coverage for a limited period of time.

COBRA continuation coverage is not triggered whenever group health coverage is loss, but only upon occurrence of certain qualifying events that produce a loss of health coverage. If the qualified beneficiary elects to continue that group health plan coverage within the prescribed time limit and pays for that coverage, the continuation coverage will be provided for a limited period of time, depending on the type of qualifying event and other circumstances that could extend or shorten the length of that continuation coverage period.

OTHER CONTINUATION COVERAGE LAW

At the federal level, USERRA provides health coverage continuation rights that affect employers when employees go on leave for uniformed service or certain other activities. (USERRA is the acronym for the Uniformed Services Employment and Reemployment Rights Act of 1994.) USERRA provides a “COBRA-like” continuation coverage opportunity to employees who meet USERRA requirements, regardless of the size of the employer. The rules governing continuation coverage during leave for uniformed under USERRA are discussed later in this Employer Guide and within the USERRA Employer Guide itself.

Whether or not subject to COBRA, employers may find that their plans are subject to similar continuation coverage requirements under other laws. For example, state insurance laws may require continuation of coverage under certain insured health plans. This creates few difficulties for these employers, however, because insurers generally are responsible for compliance with state laws or those laws are preempted by ERISA. Accordingly, COBRA provides the most significant continuation coverage obligations for employers, and state continuation coverage rights are not discussed within this Employer Guide.

COBRA NOTICES

The discussion of COBRA requirements in this Employer Guide is designed to inform employers that sponsor health plans about their general obligations under COBRA. The Appendix at the end of this Employer Guide provides a glossary of COBRA terms that are key concepts for COBRA administration. For an individual new to COBRA administration, reading the Appendix before reading the material within this Employer Guide is highly recommended.

The “Supporting Employer Tools” (noted above) list sample COBRA notices and forms (not legally required) designed to assist with COBRA administration. These materials are available on Willis Essentials.

COBRA compliance requires that an employer or plan administrator send notices informing plan participants and qualified beneficiaries of their rights under COBRA. It is very important that these notices contain all required information and are sent to the correct individuals by the proper means. An employer or plan administrator who fails to meet COBRA notice requirements will have great difficulty defending a COBRA claim, even if COBRA coverage was otherwise properly offered, withheld, provided, and/or terminated.

All sample COBRA notices and forms noted within this Employer Guide may be customized for use with specific group health care plans. The forms reflect a specific set of plan provisions and will require careful review and customization before use. In addition, plan administrators should be aware that their COBRA notices, forms, and procedures must be altered as new COBRA developments occur, even if those developments do not necessitate plan amendments.

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Caution Regarding Scope of this Employer Guide. This Employer Guide explains the COBRA rules found in ERISA and the Code – but not those found in the PHSA. The COBRA rules in ERISA and the Code govern most employers’ obligations with respect to the health plans they sponsor. The COBRA rules in the PHSA apply to plans of state and local governments and, although the PHSA COBRA rules are very similar to those in ERISA and the Code, they are not identical. This Employer Guide addresses employers’ COBRA obligations with respect to private single-employer plans only. Employers’ COBRA obligations with respect to multiple-employer plans (including collectively bargained multiemployer plans) vary depending on a number of factors, including the employer’s involvement with the plan.

Assumptions Underlying Sample Materials

 No Complete Exemption. The employer is a private-sector business that has enough employees so that its plans do not qualify for the small employer exemption from COBRA. The only exemption that applies is the limited exemption for cafeteria plan health flexible spending accounts (Health FSAs) that are exempt from HIPAA.

 Only One Plan + Health FSA. The employer maintains two group health plans: The HIPAA-exempt Health FSA noted in the first bulleted item above and a plan providing medical, dental, and vision benefits. The medical benefits included in this second plan include multiple options (e.g., an HMO and a PPO) which employees can choose among at each enrollment period. If an employer maintains more than one group health plan, all of the compliance steps noted in this Employer Guide apply separately to each plan.

 No Grace Period. The employer has not amended its cafeteria plan to allow the 2½ month grace period at the end of the plan year that is permissible for certain cafeteria plans.

 Single-Employer Plan. Each “plan” is a single employer plan (that is, the plan is not a multi-employer plan or a multiple employer welfare arrangement).

 Employer is Plan Administrator. The employer is the plan administrator and has responsibility to perform all plan administration duties. (A third party administrator that provides COBRA administration services is not considered a separate plan administrator, and any delegation from the employer to such a service provider does not make that provider into the plan administrator for COBRA purposes.)

 Gross Misconduct. The employer does not offer COBRA coverage to employees who it deems to have been terminated for gross misconduct, so the gross misconduct provision is noted in the forms. Some employers prefer to offer COBRA to all terminating employees even if they arguably are terminated for gross misconduct. Notations regarding gross misconduct should be removed if the employer has adopted this position.

 Verification of Eligibility. The employer’s plan reserves the right to require documentation of active employees’

dependents’ eligibility and, to the extent permitted under the health care reform law’s rescission prohibition, to retroactively terminate coverage of ineligible dependents of active employees.

 Legal Separation Qualifying Event. The plan provides that coverage of an employee’s spouse ends upon legal separation from the employee, so the various materials refer to legal separation as a qualifying event. Most plans do not terminate a spouse’s coverage upon legal separation, however, and such plans should omit references to legal separation.

 Chapter 11 Bankruptcy Qualifying Event. The employer does not provide retiree coverage. The qualifying event of employer bankruptcy only applies to retirees, so no reference to bankruptcy as a qualifying event is included in the various notices.

 Date of Qualifying Event. The employer has not opted to amend its plan to provide for the last day of coverage to be treated as the date of the qualifying event. So, the notices refer to the date of the event as the qualifying event date and use that date to determine the required notice date and the maximum COBRA coverage period.

Employers have the option of using the date of loss of coverage as the qualifying event date, but must amend their plans to provide for that and use that date as the qualifying event date for all COBRA administration purposes.

 Coverage Cancelled Subject to Reinstatement. The employer has arranged with its insurer to retroactively reinstate coverage following a qualifying event upon proper election and payment for COBRA coverage.

Accordingly, the employer’s notices to qualified beneficiaries and health care providers reflect this provision.

Employers who maintain coverage in effect subject to retroactive cancellation if COBRA coverage is not properly elected and paid for will need to revise these materials accordingly. The same treatment applies during a grace period before the plan receives payment of a month’s premium.

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 Election Period. The employer has elected to use the minimum allowable COBRA election period.

 Waivers. Because of the difficulty associated with waivers, and their very limited effectiveness in the COBRA context, the employer does not seek waivers of COBRA coverage in any situation, so none of the notices address the effect of a waiver, except to the extent required by applicable regulations.

 Mailing Notices. The employer has chosen to provide all COBRA notices by first class mail, with a certificate of mailing. Many COBRA experts recommend other procedures for providing – and documenting provision of – COBRA notices.

 Requiring Incoming Notices to Be Mailed. The employer has adopted notice procedures for incoming notices that require the notices to be in writing and to be mailed to the employer. Employers can make other means of delivering notices available if they choose, and must honor notices given by other means in some circumstances.

 Payment Shortages. The employer has adopted the policy regarding insignificant payment shortages (available on Willis Essentials) using the lowest allowable amount as the maximum insignificant shortage, and collecting all insignificant shortages, regardless of amount.

 Premium Due Date. Except for the initial premium payment, each month’s premium is due on the first day of the month to which the premium applies.

 Grace Period. The grace period under the insurance policy funding the plan is no more than 30 days, and the employer does not allow a longer grace period. Similarly, the initial COBRA premium payment period ends 45 days after the election date and the employer does not allow a longer payment period.

 COBRA Termination Events. The employer terminates COBRA coverage whenever an event allowing for termination occurs and has chosen to provide that COBRA coverage automatically terminates when one of these events occurs.

 Conversion. The employer’s plan has conversion rights. These rights generally apply only under insured plans, but also may apply to some self-funded plans. If a plan does not provide conversion rights, delete the language in the forms about conversion.

 State Laws. The continuation coverage laws in the states where the employer is located are no more generous that the federal COBRA law.

 SPD as Initial Notice. When the DOL’s 2004 COBRA notice regulations became effective, the employer elected to send a combined initial notice and summary of material modifications to covered employees and their covered spouses. A sample of this type of document is available on Willis Essentials. The employer continues to use this combined document as a supplement to its SPD because it has not distributed a new SPD since it made the COBRA notice changes to its plan. Accordingly, the employer includes the combined document with the SPD for its health plans whenever it provides that SPD. The employer has also begun using a separate initial COBRA notice which it mails to covered employees and their covered spouses when their coverage first becomes effective. A sample of this type of document is available on Willis Essentials.

 Notice Procedures. The regulations require initial notices to disclose the requirement for (and describe the procedures for providing) qualifying event notices and disability determination notices. The employer has decided, however, to include all four of the required notice procedures in its initial notice in order to ensure that covered spouses receive them.

WHAT GUIDANCE CONTROLS COBRA ADMINISTRATION?

The Consolidated Omnibus Budget Reconciliation Act of 1985 (COBRA) included continuation coverage provisions that are both a substantial administrative burden and a significant source of legal exposure for employers that offer group health plans. These continuation coverage rules appear in the Internal Revenue Code (Code), the Public Health Service Act (PHSA), and the Employee Retirement Income Security Act of 1974 (ERISA), but generally are referred to as “COBRA.” Because COBRA rules were adopted in three different statutes, three federal regulatory agencies have authority, as well as regulatory enforcement mechanisms, to enforce federal continuation coverage requirements.

In addition, ERISA provides most individuals who are denied continuation coverage the right to bring lawsuits against the employer responsible for providing their COBRA coverage. If such an individual wins the suit, the individual may recover from that employer the benefits that would have been paid if the employer had provided COBRA coverage. In addition, ERISA provides that plan participants and beneficiaries can recover $110 per day if certain COBRA notices are not provided as required.

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SOURCES OF OFFICIAL COBRA GUIDANCE

Official COBRA guidance includes the original statute, amendments to the statute, Internal Revenue Service (IRS) regulations, Department of Labor (DOL) regulations, numerous court decisions, and various regulatory releases. For any topic not addressed by IRS or DOL final regulations, the IRS and DOL require plans and employers to operate in good faith compliance with a reasonable interpretation of COBRA. Determining the appropriate COBRA premium for coverage under a self-funded plan is one of the few major COBRA topics that remain subject to this good faith standard.

TO WHICH ENTITIES DOES COBRA APPLY?

Employers typically are both the plan sponsor and plan administrator of the health plans they provide to employees.

As such, employers generally are ultimately responsible for COBRA compliance.

Note Regarding Terms. For ease of reference, we use the term employer to refer to both the employer sponsoring the plan and the plan administrator. In most cases this will be accurate. If the employer is not both the plan sponsor and plan administrator, the information in this Employer Guide may not fully reflect the obligations and duties of each party.

EMPLOYERS SUBJECT TO COBRA

Virtually all employers that employ 20 or more individuals and offer a group health plan are subject to COBRA under one or more of the Code, ERISA, and the PHSA. As discussed later in this Employer Guide under the heading “Plans That May Be Exempt from COBRA (or Portions of COBRA),” only churches and small employers are completely exempt from COBRA. Many governmental employers assume that they are exempt from COBRA but, in fact, most are subject to the COBRA rules included in the PHSA.

EMPLOYERS’ RESPONSIBILITIES

Employers, rather than the insurers or contractors that employers hire to administer COBRA, incur the penalties and liabilities resulting from failing to comply. The DOL has consistently taken the position under ERISA rules that employers are responsible for COBRA compliance, even if they comprehensively delegate administration to an insurance company or third party administrator (TPA).

COBRA Compliance Measures Employers Should Consider.

 Review the content of COBRA notices.

 Standardize and document mailing procedures for the plan to send COBRA notices, as well as any supplemental communications pieces that the plan distributes to COBRA participants.

 Standardize and document the plan’s reasonable procedures for covered employees and qualified beneficiaries to provide required notices to the plan.

 Implement procedures requiring review of situations in which COBRA is not offered when coverage ends and documentation of reasons for not offering COBRA, such as for “gross misconduct” situations.

 Confirm “who does what” under agreements with insurance companies and/or TPAs to make sure all COBRA functions are assigned, and monitor performance to ensure COBRA functions are being completed properly.

 Implement an audit program to review COBRA compliance at regular intervals so that compliance failures can be corrected and procedures amended to prevent similar failures in the future.

Responsibility for Related Companies --

COBRA defines an employer as including all companies or businesses included in a single “controlled group” and any successor to, or person acting on behalf of, any of such

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 5 companies or businesses. A controlled group of companies or businesses very generally refers to a group related by high levels of common ownership. For example, a subsidiary company owned entirely by a parent company is part of the parent company’s controlled group. The general rule is that if common ownership among a group of companies is at an 80% or higher level based on shares of voting or equity stock, the group is treated as a single employer.

One consequence of this controlled group definition is that each U.S. employer in a controlled group may be held liable for any other controlled group member’s COBRA violation. This is true even if the U.S. employers are only indirectly related through a foreign parent company. For example, a U.S. company with a foreign parent may be obligated to provide continuation coverage for employees of another U.S. subsidiary of that foreign parent. Controlled group rules are described in more detail later in this Employer Guide under the heading “Plans That May Be Exempt from COBRA (or Portions of COBRA).”

Responsibility for Predecessor Companies --

In business reorganization situations, the identity of the employer operating a business may change through sale of the assets of that business, or through a merger of corporations, or through another similar event. In that instance, if the new employer is a successor, it will continue to have responsibility to provide COBRA coverage to those who already are receiving such coverage when the reorganization occurs, as well as other employees affected by the reorganization. This requirement can apply even if the successor employer qualified as a small employer that was exempt from COBRA at the time of the transaction.

According to IRS guidance, if the acquired company was subject to COBRA prior to the transaction, then the buyer company – even if it is otherwise exempt from COBRA – will acquire the COBRA responsibilities of the acquired company, provided the buyer is a successor employer.

Meaning of “Successor Employer.”

 An employer that results from a consolidation, merger, or similar restructuring of the prior employer or that is a continuation of the prior employer.

 An employer that has purchased substantial assets, if, in connection with the purchase, the selling employer (including its controlled group) ceases providing group health benefits to any employee, and the buying employer uses the purchased assets to continue the seller’s business without interruption or substantial change.

An employer continues to have COBRA obligations so long as the business with which COBRA beneficiaries are associated continues to operate. Even if the business is bought out of a bankruptcy proceeding, the buyer may be considered a “successor,” and the COBRA obligations may be transferred to the buyer. If the parties to a transaction allocate responsibility for COBRA among themselves, that allocation typically will be disregarded if the party with the contractual obligation to provide COBRA does not do so. In that case, the employer that the rules designate as being responsible will be required to provide the coverage that the other party should have provided. (Additional details on the provisions governing COBRA obligations in mergers and acquisitions are set out later in this Employer Guide under the heading “Administering COBRA: Business Reorganizations, Mergers, and Acquisitions.”)

Impact of Insurer Refusing Coverage

-- Employers are obligated to provide COBRA continuation coverage under their group health plans, even if the insurer under the plan refuses to provide required continuation coverage.

Insurers generally are not subject to direct requirements to provide COBRA coverage except under plans they sponsor for their own employees. Carriers do not have the same incentive that employers have to “err on the side of caution” when it comes to providing COBRA coverage. COBRA coverage still must be provided, even if the plan has to self-insure the continuation coverage for an individual because an insurance company refuses to provide coverage.

A provision in the Code, however, imposes an excise tax on certain carriers that refuse coverage, and often can be used to convince a balking carrier to provide COBRA coverage. (See the section of this Employer Guide entitled

“Penalties for COBRA Violations.”)

Whenever an employer doubts an insurer’s willingness to provide COBRA coverage to an individual or group, the employer should communicate with the carrier (including a stop loss carrier) to ensure that the carrier will support offering COBRA. As always, written documentation is strongly suggested. This is particularly important if available guidance on whether COBRA is required can be interpreted more than one way. Willis Essentials includes a sample letter to an insurer that has refused to provide COBRA coverage. The letter reminds the insurer of the potential for excise taxes to be imposed on the insurer in the event of a COBRA violation. (See the section of this Employer Guide

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 6 entitled “Penalties for COBRA Violations.”) Such letters frequently are helpful in obtaining an insurer’s cooperation in a dispute about COBRA requirements.

WHAT ARE THE BASIC COBRA REQUIREMENTS?

COBRA requires employers’ group health plans to offer continuation of coverage to certain covered employees, and/or their covered spouses and dependent children, upon the occurrence of certain “qualifying events.” The maximum duration of COBRA coverage ranges from 18 months to 36 months depending primarily on the type of qualifying event triggering COBRA coverage. Employers generally require those electing COBRA to pay the maximum permissible premium for continuation coverage, which usually is 102% of the cost of plan coverage for similarly situated active group health plan participants who have not experienced a qualifying event.

Employers’ Administrative Duties Under COBRA. When the employer is also the plan administrator, the employer’s COBRA responsibilities generally fall into the following categories:

 Identifying their group health plans that are subject to COBRA.

 Providing timely notice of COBRA rights at enrollment in any of those group health plans to the covered employee and spouse.

 Disclosing COBRA rights and procedures in each group health plan’s summary plan description.

 Creating and implementing notice requirements and procedures for covered employees and qualified beneficiaries.

 Identifying most of the qualifying events occurring under those group health plans at the time that they occur.

 Determining whether the notices of other qualifying events received from covered employees, qualified beneficiaries, and their representatives trigger COBRA rights.

 Providing notices of unavailability in response to certain event notices that do not trigger COBRA rights.

 Identifying all qualified beneficiaries having COBRA rights as a result of each qualifying event with respect to each group health plan.

 Providing timely notice of COBRA rights following a qualifying event to each qualified beneficiary losing coverage under each group health plan in which the qualified beneficiary participated (or was deemed to participate) on the day before the qualifying event.

 Determining whether an individual has made a valid and timely election of COBRA coverage.

 Providing COBRA coverage as required to each person who validly elects it.

 Determining, and administering collection of, premiums for COBRA coverage.

 Determining whether notices from qualified beneficiaries, covered employees, or their representatives result in extension of the maximum COBRA coverage period.

 Determining when COBRA coverage can be terminated and, if COBRA terminates early,

providing notice of the termination and whether other continuation rights apply following COBRA.

WHICH GROUP HEALTH PLANS ARE SUBJECT TO COBRA?

Most group health plans that are maintained by employers or employee organizations are subject to COBRA. (But see

“Plans Exempt from COBRA (or Portions of COBRA)” later in this Employer Guide.) A “group health plan” for purposes of COBRA includes all traditional forms of group health coverage, like medical, dental, vision, and prescription drug plans, regardless of whether provided through traditional indemnity plans, Health Maintenance Organizations (HMOs), or Preferred Provider Organizations (PPOs) and regardless of whether insured or self-insured.

Group health plans subject to COBRA also include several less obvious types of programs, including health care flexible spending accounts and many employee assistance programs.

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 7 COBRA applies whether the plan is paid for by the employer, or by employees, so long as it is “maintained” by an employer. An employer “maintains” a plan for COBRA purposes if coverage under the plan would not be available to an individual at the same cost if the individual did not have an employment-related connection to the employer.

COBRA also applies not only to group arrangements, but also to one or more individual policies that are part of an arrangement to provide health care to two or more employees. COBRA can apply through the Code or PHSA to plans that are exempt from ERISA.

HOW MANY “PLANS”?

COBRA requires each group health plan to comply with COBRA requirements separately, and to offer each qualified beneficiary a separate election with respect to COBRA coverage. This means that a qualified beneficiary’s ability to elect some of the coverages in effect when the qualifying event occurred, and to decline others, depends on whether the coverages are offered under one plan or under several separate plans. If the employer provides each coverage under a separate plan, the qualified beneficiary can pick and choose. If the employer provides all of the coverages under a single plan, the qualified beneficiary can choose either to take all of the coverages or to take none of them.

Therefore, to administer COBRA properly, an employer must know how many different plans it maintains that are subject to COBRA. The general rule is that all health benefits provided by a single corporation, partnership, or other entity, trade or business are treated as one plan, unless plan documents and plan operations make clear that a different structure is intended.

This means that an employer can document its health and medical programs as one plan so that a qualified beneficiary’s only choice is whether to elect (and pay for) COBRA coverage which includes all of the benefits in effect at the qualifying event. In some cases, however, an employer may wish to ensure that some part of its program is treated as a separate plan. (For example, an employer wishing to use the limitations on health flexible spending accounts’ COBRA obligations that are described later in this Employer Guide, should specify in plan documentation that its health flexible spending account is a separate plan for COBRA purposes, and should administer it as a separate plan.)

Identifying Group Health Plans --

To identify its group health plans, the employer should first determine which of its benefits programs provide any health benefits whatsoever. If the employer concludes that a program provides health benefits, the employer should determine whether the program is a group health plan maintained by the employer under COBRA criteria. (The test for “maintaining” a health plan is described earlier in this Employer Guide under the heading “Group Health Plans Subject to COBRA.”) If the employer concludes that the program is not a group health plan maintained by an employer, it should document that conclusion for its files. For each group health plan that the employer maintains, the employer should either comply with COBRA or document that an exemption excuses compliance.

PLANS THAT MAY BE EXEMPT FROM COBRA (OR PORTIONS OF COBRA)

Certain employer-maintained group health plans may qualify for full or partial exemption from COBRA.

Plans Exempt From COBRA Requirements. Group health plans that are at least partly exempt from COBRA include those in the following list, provided they meet the conditions specified in the subsections below.

 Plans of small employers.

 Plans established and maintained for the employees of federal, state, and local governments (although exempt from IRS and DOL rules, plans of state and local governments are subject to the COBRA provisions of the PHSA).

 Plans established by churches or tax-exempt associations of churches (even though these plans are exempt from COBRA obligations, many church employers voluntarily choose to provide health coverage continuation comparable to COBRA).

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 Voluntary benefits.

 Long-term care plans.

 Health care flexible spending accounts.

 Medical savings accounts (MSAs).

 Health savings accounts (HSAs).

Small-Employer Plans --

Plans of small employers are exempt from COBRA. An employer is considered a small employer and is excused from COBRA compliance, if during the preceding calendar year it normally employed fewer than 20 employees. Consequently, even if the employer’s work force falls below 20 employees, its plans will continue to be subject to COBRA until a new calendar year begins, and then will be exempt only if, during the preceding calendar year, it normally had fewer than 20 employees.

Definition of “Employer” -- As discussed earlier in this Employer Guide in connection with employers’ liability for noncompliance, COBRA defines an employer as including all members of a “controlled group” of companies or businesses. This controlled group rule can affect a company’s use of the small group exemption because all employees of all companies included in the same controlled group are counted to determine whether the employer has fewer than 20 employees. A controlled group generally exists with an 80-percent level of common ownership, but analysis of the facts of a particular corporation’s structure usually is necessary.

Effect of Foreign Ownership. As explained earlier in this Employer Guide, a U.S. company can be in the same controlled group as another U.S. company even if their only common ownership is through one or more foreign companies. In addition, employees of foreign companies that are part of a controlled group (even those who reside outside the U.S.) are counted for purposes of determining if COBRA’s small-employer exemption applies to a U.S. company. For example, the existence of a foreign parent company would require a U.S. company counting its employees for COBRA purposes to include employees of other U.S. and non-U.S. subsidiaries of that non-U.S. parent. This means that a U.S. company with fewer than 20 employees can be subject to COBRA even if it is not related to any other company with employees in the U.S.

As noted above in the section entitled “Employers’ Responsibilities,” an employer for COBRA purposes includes a successor employer, even if that successor employer qualified as a small employer that was exempt from COBRA at the time of the transaction (and any qualifying events in connection with the transaction). The IRS has interpreted this rule so that, following some acquisitions, an employer that was an exempt small employer at the time of the acquisition can become responsible for providing COBRA coverage. This occurs in all situations in which the buying employer is a successor and the acquired company was not exempt from COBRA. (The criteria for an employer being a successor are discussed in the section entitled “Employers’ Responsibilities.”)

Example – Company A had 12 employees during 2010 under the counting rules described below, and therefore was exempt from COBRA during 2011. Company Z had 23 employees during 2010 under the counting rules, and was subject to COBRA during 2011. In May 2011, Company A acquired Company Z. At the time of the transaction, Company Z was providing COBRA coverage to two individuals.

Following the transaction, neither Company Z nor any employer related to Company Z maintained a health plan. Company A hired all but three of Company Z’s employees at the closing and continued Company Z’s business without interruption following the closing. Because Company A is a successor to Company Z, Company A is considered to have Company Z’s COBRA responsibilities. Therefore, Company A is required to provide COBRA coverage under its health plans to Company Z’s two existing COBRA participants. In addition, Company A is required to offer COBRA coverage to the three employees of Company Z that it did not hire at the closing and their dependents. (The rules governing responsibility for COBRA coverage in merger and acquisition situations are explained in

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 9 detail later in this Employer Guide in the section entitled “Administering COBRA: Business Reorganizations, Mergers, and Acquisitions.”)

In addition to having responsibility for providing COBRA coverage to qualified beneficiaries under an acquired company’s health plan, in some transactions, an exempt small employer can lose its exemption as of the date of the closing. This is because the acquired company’s workforce during the prior year is treated as part of the acquiring company’s workforce during the prior calendar year for purposes of determining whether the acquiring company meets the small employer test. The acquisitions in which this rule applies are called “stock” transactions because the stock (or other equity interest) of the acquired company is purchased. (Details on the difference between a stock acquisition and an asset acquisition are set out later in this Employer Guide under the heading “Administering COBRA: Business Reorganizations, Mergers, and Acquisitions.”)

Example – Company B had 12 employees during 2010 under the counting rules described below, and therefore was exempt from COBRA during 2011. Company Y had 13 employees during 2010 under the counting rules, and also was exempt from COBRA during 2011.

In August 2011, Company B acquired all of the shares of Company Y’s stock and merged Company Y into Company B. (In this type of transaction, the employees of Company Y would automatically become employees of Company B.) Under an IRS ruling, starting on the date of the closing, Company B would immediately become subject to COBRA (that is, it would lose the small employer exemption as of the closing). This is because Company B would be deemed to have had 25 employees during 2010 (its own 12, plus Company Y’s 13). If Company B had purchased only Company Y’s assets, Company B would not be subject to COBRA until January 1 of the year following the calendar year in which Company B had 20 or more employees under the counting rules described in this section. In this case, that would probably not occur until January 1, 2013. This is because Company B would already have completed the majority of its business days for 2011 before the August 2011 asset acquisition, and would have had fewer than 20 employees on those days.

“Normal” Employment Levels

An employer is considered to “normally” employ fewer than 20 employees during a calendar year if the employer has fewer than 20 employees on at least 50% of the employer’s “typical business days” during that calendar year. Days of abnormally high or low employment are disregarded for this purpose. For example, a retailer would disregard days on which it had extra employees to cover holiday business.

An employer may determine its number of employees on either a daily basis or on a per pay period basis. An employer using the pay period basis would identify typical pay periods and attribute the number of employees it had during that pay period to each day within the pay period. Once an employer elects to use either the daily method or the pay period method, the employer must use that same method for the entire year for which the number of employees is being determined and for all employees of the employer.

Which Employees Count? Only common-law employees count for purposes of the small-employer exemption. Non- employees (such as independent contractors, self-employed individuals, and directors of a corporation) are disregarded. Each full-time common-law employee counts as one employee, while an employer may count each part- time employee as a fraction of an employee. The fraction would be determined by the number of hours the part-time employee works for the employer, divided by the number of hours that an employee must work to be considered a full- time employee (not to exceed 8 hours a day or 40 hours a week).

Small Employers and Multi-Employer Plans -- IRS COBRA regulations define a “multi-employer plan” as one to which more than one employer is required to contribute, and that is maintained pursuant to one or more collective bargaining agreements. These plans are small employer plans under COBRA only if all of the employers contributing to them had fewer than 20 employees under applicable counting rules during the preceding calendar year. The addition of even a single employer that has 20 or more employees will destroy the small-employer exemption for the entire multi-employer plan.

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 10 Small Employers and MEWAs -- The small-employer exemption apparently applies differently to multiple employer welfare arrangements (MEWAs) than it does to multi-employer (collectively-bargained) plans. (In general, a MEWA is a welfare arrangement that is not collectively bargained, through which two or more unrelated employers provide welfare plan benefits to their employees.) The final regulations do not address how the rules apply to MEWAs, but DOL guidance on MEWAs indicates that, in most cases, the MEWA itself is not a health plan. Instead, the benefits provided through the MEWA are considered a separate plan for each employer whose employees are covered under those benefits. This means that small employers participating in a MEWA continue to qualify as small employers even if the MEWA covers more than 20 employees and/or includes employers that do not qualify for the exemption.

This analysis is consistent with now-superseded IRS proposed COBRA regulations under which each employer participating in a MEWA was treated as sponsoring a separate plan for COBRA purposes. It is not clear from the final regulations whether the IRS intended to continue this treatment, but doing so is consistent with DOL guidance on when MEWAs are considered a single plan and when they are considered a number of separate plans. In addition, most employers are continuing to take this approach. If a MEWA were considered a single group health plan, as may be the case if benefits are provided through a single trust, the analysis noted above for multi-employer plans governed by collective bargaining agreements probably would apply.

Ceasing to be a Small Employer -- As a small employer’s business grows, it should consider at the beginning of each year whether it still meets the test for small employer status under the counting rules described in this section.

Because those rules apply to the preceding calendar year, and because they require meeting the 20-employee test on at least 50% of the employer’s “typical business days” during that calendar year, most employers will have a fairly long lead time after hiring their 20^th employee to begin complying with COBRA.

Example – Company C had 18 employees during 2010 according to the counting rules described in this section and was exempt from COBRA as a small employer during 2011. In September 2011, Company C hired its 19^th and 20^th employees. In 2012, Company C continues to be a small employer because it had fewer than 20 employees on at least 50% of its typical business days during 2011. If Company C continues to employ 20 or more people during 2012, it will be subject to COBRA starting in 2013.

There is an exception to this rule when a small employer’s workforce grows through acquisition, and the acquisition is a “stock acquisition.” A stock acquisition generally occurs when two or more companies that were previously unrelated become part of the same controlled group under the rules described above in the section entitled “Employers’

Responsibilities.” (Details on the difference between a stock acquisition and an asset acquisition are set out later in this Employer Guide under the heading “Administering COBRA: Business Reorganizations, Mergers, and Acquisitions.”) If a small employer makes a stock acquisition, employees of the acquired company will be treated as employed by the employer during the calendar year before the acquisition. If the combined businesses employed 20 or more people during the calendar year before the acquisition, the acquiring employer will cease to be an exempt small employer as of the date of closing. Under these circumstances, the employer will not enjoy the comfortable lead time it would otherwise have to become compliant with COBRA.

By contrast, if an employer’s workforce grows as the result of an acquisition that is not a stock acquisition, the general rule described above applies, and the employer will still look only at the workforce it actually had during the previous calendar year for purposes of determining whether it is a small employer. In that case, the new employees are treated as if they were hired by the employer on the date of the acquisition. (It is important to note that, if the buying company is a successor employer, it may have responsibility for providing COBRA coverage to existing qualified beneficiaries as described earlier in this section.)

Governmental Plans --

Plans of governmental employers generally are exempt from the COBRA rules in the Code and ERISA, but state and local governments’ plans are subject to continuation coverage requirements under the PHSA. Coverage required under these PHSA rules is called “COBRA” coverage because the law that created the Code and ERISA rules also established the PHSA provisions. The PHSA COBRA rules are very similar, but not identical to, the COBRA rules in the Code and ERISA. The federal government’s plans are subject to continuation

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 11 requirements that somewhat resemble COBRA requirements, but the details of which are beyond the scope of this Compliance Manual.

Church Plans --

Church plans (as defined in Code Section 414(e)) generally are not subject to COBRA. In some cases, however, churches seek to mirror the benefits that business sector employers provide, and voluntarily offer COBRA continuation coverage. When church plans do this, they should articulate exactly what type of continuation right is being extended and then abide by those terms on a consistent basis. In addition, they should determine if insurance carriers associated with their plans will provide that coverage.

Voluntary Benefits --

Voluntary benefits can qualify as exempt from COBRA, but they typically do not. (Voluntary benefits also are often called “employee-pay-all” benefits.) Technically, voluntary benefits are benefits provided under a program that is not sponsored, endorsed, or in any way subsidized by an employer. Even if a voluntary benefits program meets these tests, it will not be exempt from COBRA if it is maintained by an employer. As discussed earlier in this Employer Guide under the heading “Group Health Plans Subject to COBRA,” health benefits generally are subject to COBRA if the benefits would not be available at the same cost outside of the employment relationship. The pricing for most voluntary benefits is on a group basis, and that pricing generally is not available outside of the employment relationship, which means that voluntary programs are generally subject to COBRA.

Even if they are subject to COBRA, these programs generally are portable so that covered individuals can access the same coverage at the same price as when employed. This feature may excuse the employer from offering COBRA with respect to these programs in some, but not all, cases because there will be no loss of coverage when a termination of employment or other potential qualifying event occurs. An employer would need to review each program’s terms to determine whether any of the potential qualifying events (covered employee’s termination of employment, reduction in hours, divorce, legal separation, death, or Medicare entitlement (which generally means actually having Medicare coverage) or a dependent child’s ineligibility) could result in a loss of coverage that would trigger COBRA rights.

Long-Term Care Plans --

COBRA usually does not apply to long-term care. A program is not subject to COBRA if substantially all of the coverage provided under the plan is for qualified long-term care services. A plan may use any

“reasonable method” in determining whether substantially all of the coverage is for qualified long-term care services.

Archer Medical Savings Accounts and Health Savings Accounts --

COBRA does not apply to Archer medical savings accounts (MSAs), themselves. Archer MSAs are portable, so COBRA coverage is largely irrelevant in any event. However, the high-deductible health plan that covers an Archer MSA holder may be a group health plan that carries with it COBRA obligations.

Health Savings Accounts (HSAs) also are generally exempt from COBRA. Like Archer MSAs, HSAs are portable, so COBRA is unlikely to be an issue. Depending on the level of employer involvement, HSAs are subject to ERISA, however, and those HSAs may also be subject to COBRA requirements. As is the case for Archer MSAs, the high- deductible health plan that covers an HSA holder may be a group health plan that is subject to COBRA.

Cafeteria Plan Health Flexible Spending Arrangements --

Health flexible spending arrangements (Health FSAs) are group health plans for purposes of COBRA, and generally are required to comply with COBRA, but special rules may apply. A “Health FSA” is a program under which participants can obtain reimbursement of health care expenses, so long as the total cost for coverage is at least 20% of the maximum reimbursement amount. (Stated differently, the maximum reimbursement must be less than the premium multiplied by five.) In most cases, the reimbursement available under a Health FSA equals the Health FSA “premium,” as is the case when a Health FSA is offered as an option under a cafeteria plan on a salary reduction basis. In that instance, the participant’s Health FSA coverage amount and the premium for that coverage are almost always equal to the participant’s Health FSA election amount. A participant in a cafeteria plan Health FSA becomes a qualified beneficiary entitled to COBRA continuation coverage when a qualifying event causes the participant’s Health FSA coverage to end.

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 12 A second type of health reimbursement plan that generally will be subject to COBRA is maintained outside of a cafeteria plan and provided entirely through employer contributions. These accounts are generally referred to as

“health reimbursement arrangements” (HRAs). For example, an employer may make $500 available to each employee to reimburse otherwise non-covered health expenses incurred during a plan year. COBRA implications for this type of reimbursement account are discussed later in this Employer Guide under the heading “Deductibles, Copayments and Plan Limits.”

A person electing COBRA coverage under a Health FSA has the right to continue making payments on an after-tax basis to maintain Health FSA coverage and to submit for reimbursement expenses incurred while COBRA coverage is in effect after Health FSA coverage otherwise would have ended. In addition, a qualified beneficiary continuing coverage under a salary reduction Health FSA that does not qualify for the limited COBRA obligations discussed below would be entitled to make a new election at the next election period. These COBRA rights raise financial concerns for employers that maintain cafeteria plan Health FSAs because, under cafeteria plan rules, the entire amount of a participant’s annual cafeteria plan election under the Health FSA must be available to reimburse expenses incurred at any time during the year. (This is called the uniform availability rule.)

Example – Angie’s employer provides a Health FSA that does not qualify for the limited COBRA obligations described below. For 2011, Angie elected $1,200 in Health FSA coverage. When she terminated employment in October 2011, Angie had $1,000 of her election remaining and she elected COBRA continuation. Angie pays the COBRA premium for November and, by November 30, Angie has incurred sufficient expenses to use up her remaining balance. Angie can:

• Terminate her Health FSA coverage effective December 1, 2011 by simply not paying the December COBRA premium. In that case, she will cease to be a qualified beneficiary and will have no further COBRA rights under the Health FSA.

• Pay her December COBRA premium so that she is eligible to make an election for the 2012 plan year. If she makes a new election for 2012, the entire amount of that election will be available to her immediately. If Angie elected $1,200 for 2012 and incurred $1,200 in eligible expenses during January 2012, she would be entitled to obtain reimbursement for all of those expenses under the Health FSA even if she ceases paying COBRA premiums at the end of January.

As illustrated, the uniform availability rule exposes the employer to the risk that a qualified beneficiary under a Health FSA will pay one month’s COBRA premium, incur reimbursable expenses during that month up to the full amount of the annual election, and then cease paying premiums. In other words, a qualified beneficiary making such an election could profit by paying one month’s premium, incurring reimbursable expenses during that month up to the election amount, and then dropping the COBRA coverage.

Financial exposure on cafeteria plan Health FSAs may be reduced based on two limits on Health FSAs’ COBRA obligations that apply if certain criteria are met, as discussed under the next two headings.

COBRA Available Only During Plan Year of Qualifying Event -- The first limit on a Health FSA’s COBRA obligations allows the employer to end COBRA coverage at the end of the plan year in which the qualifying event occurs. This limited exemption applies only if the Health FSA meets two conditions.

Two Conditions for Health FSA Limited Exemption to Apply.

 The Health FSA must be exempt from the Health Insurance Portability and Accountability Act of 1996 (HIPAA) portability provisions. In general, Health FSAs are exempt from HIPAA if: (i) employees eligible for the Health FSA are also eligible for the employer’s non-exempt medical plan; and (ii) the Health FSA benefit does not exceed two times the employee’s salary reduction amount for the year or, if greater, the employee’s salary reduction amount plus $500.

 In the plan year in which the qualified beneficiary’s qualifying event occurred, the maximum amount that the Health FSA can require to be paid for a full plan year of COBRA coverage equals or exceeds the maximum benefit available under the health FSA for that year.

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COBRAADMINISTRATION: AN EMPLOYER GUIDE 13 The good news is that most cafeteria plan Health FSAs will satisfy the criteria for this “until year-end” limit with respect to all participants, and as a result they avoid any further COBRA obligation to any electing qualified beneficiary after the plan year of the qualifying event. Typical cafeteria plan Health FSAs have no employer contributions and are offered as a supplement to a non-HIPAA-exempt medical plan, so they meet the terms of the HIPAA exemption.

(Health FSAs that receive employer contributions, including flex credits, may not qualify.) Most Health FSAs will meet the second criterion because the payment for a year of COBRA coverage will exceed the available reimbursements by the two-percent COBRA administrative fee. For example, a Health FSA election of $250 for a year would result in a cost to the qualified beneficiary of $255 ($250 plus two percent) for the year, which exceeds the reimbursable amount.

No COBRA Required for Some Qualified Beneficiaries -- The second limit on Health FSAs’ COBRA obligations completely excuses a Health FSA from offering COBRA coverage to certain qualified beneficiaries. For this limited exemption to apply, the Health FSA first must meet the conditions for the “until year-end” limit that are noted above. In addition, as of the date of an individual’s qualifying event, the maximum benefit available to that qualified beneficiary for the remainder of the plan year cannot equal or exceed the maximum COBRA premium that the qualified beneficiary would pay during the same period. (This status is sometimes referred to as having “overspent” the account.) This analysis must be done on an individual basis.

Example – For 2011, Eric elects $2,400 under his employer’s cafeteria plan Health FSA. Eric’s employer makes no contributions to the Health FSA, and offers the Health FSA as a supplement to a PPO plan for which all Health FSA participants have an open enrollment opportunity each year. After the beginning of the 2011 plan year, Eric voluntarily terminates employment. At the time he quit, Eric had contributed $1,200 to the Health FSA and had received $1,600 in reimbursements. At this point, Eric’s maximum benefit during the rest of that plan year would be $800 while his maximum COBRA premium for the same period would be $1,200 plus two percent. The regulations excuse Eric’s employer from offering COBRA to him.

By contrast, this individual exemption does not apply if the qualified beneficiary has “under spent” his Health FSA election. The offer of COBRA coverage allows the qualified beneficiary an opportunity to “rescue” elected amounts that would otherwise be lost under the IRS’s cafeteria plan “use-it-or-lose-it” rules.

Example – Kyle works for the same employer as Eric and participates in the same Health FSA. For 2011, Kyle elects $1,000 under the Health FSA. After the beginning of the 2011 plan year, Kyle voluntarily terminates employment, when he has contributed $600 but only has received $500 in reimbursements. The cost for Kyle to maintain COBRA coverage under the Health FSA for the remainder of the year ($408) would not equal or exceed the maximum benefit available to him ($500), so the limited exemption would not apply, and Kyle’s employer must offer COBRA under the Health FSA. If Kyle had not incurred any qualifying expenses other than the $500 already reimbursed, he would want to elect COBRA to avoid losing his $100 under spending amount. If Kyle does elect COBRA, however, nothing prevents him from paying only one additional month’s contribution ($85), incurring $500 in reimbursable expenses during that month, and obtaining reimbursement for the full

$500 without paying any additional contributions.

Dividing a Health FSA Balance -- Health FSAs also are subject to special rules on the amount of coverage available to a qualified beneficiary when a Health FSA balance must be split among family members. This may occur any time that more than one qualified beneficiary is entitled to elect COBRA with respect to the same Health FSA balance.

Employers have struggled to reach the correct result without creating additional exposure to claims in excess of contributions.

IRS rules state that Health FSAs must use the same rule that applies to divide a family out-of-pocket limit when, due to COBRA elections, a single family group is split into two or more family groups. Interpretation of that rule is subject to debate. Under the more cautious interpretation of that rule, the election amount that applied under the Health FSA before the qualifying event applies to each family group that elects COBRA. (This is sometimes referred to as the

“mushrooming effect”.) In addition, to determine how much of that limit is left for a family group electing COBRA, only