Employee Benefit Plans: Act Now to Avoid Unpleasant Surprises

by Elizabeth L. Foster-Nolan,

Wayne H. Miller and Barbara S. Sargent, Goulston & Storrs, P.C.

Employee benefits play a large role in the attraction and retention of an employers workforce, and family-owned businesses are no exception.  The end of the calendar year is usually a time when employers are providing their employees with benefit plan elections for the coming year.  While employees are reviewing their benefit choices, employers should use this time to review their benefit plans to ensure they are in compliance with the myriad of complex laws related to health and retirement plans.

Keeping up with the laws regarding benefits is not always an easy task.  Here are some important areas that may need your attention.

Changes in the COBRA Regulations

Since 1985, employers with 20 or more employees have been required to provide employees and their qualified beneficiaries the right to continue their health coverage upon termination of employment or the occurrence of other “qualifying events”, such as the employees death, divorce or a dependent losing dependent status under the health plan.  This requirement, better known as COBRA is a result of the federal Consolidated Omnibus Budget Reconciliation Act of 1985. (In Massachusetts, and several other states, there is a “Mini-COBRA” law that applies to employers with fewer than 20 employees.)  The cost for continuing health coverage under COBRA or Mini- COBRA is the responsibility of the employee or the qualified beneficiary.

Over the last several years, the United States Department of Labor (“the DOL”) has published regulations governing the administration of COBRA.  Recently the DOL proposed new regulations that will require employers and plan administrators to change the notices and election forms they provide to their employees and qualified beneficiaries.  The additional information will need to be included in the various notices that employers and administrators are already required to provide to employees and qualified beneficiaries, including health plan documents, summary plan descriptions (SPDs), initial COBRA notices, qualifying-event notices, and COBRA election forms.

The new regulations were scheduled to take effect January 1, 2004 for calendar year health plans, but the DOL recently extended that effective date due to the number of comments it received regarding the proposed regulations. The new effective date will be six months after the adoption of the final rules to allow employers to implement the required changes.

Each employer and plan administrator should review the new regulations to determine what changes need to be made to their practices and procedures before the effective date of the new regulations.  Some of the areas that will affect most employers are highlighted below.  The general requirements of COBRA are not discussed nor are all of the details of the new regulations addressed, so employers will want to consult with their HR advisors regarding implementation.

New Model Forms

To assist employers in complying with the new regulations, the DOL developed a new model notice and a model election form that can be used.  Even though the effective date of the regulations has been postponed, employers who are using the 1986 model notices issued by the need to stop using that form immediately and use the new model form. These forms are now on the DOL website http://www.dol.gov/ebsa and will need to be customized to reflect employer’s specific health plans.

Initial Notice

The initial COBRA notice provides those covered by health insurance with information regarding their rights under COBRA, including what to do in the event they lose their health coverage due to the loss of a job, death, divorce or legal separation.  Until these proposed regulations were issued, employers had no deadline for providing the initial COBRA notice to the covered employee and his/her spouse.  The initial notice must now be provided within 90 days of an employee beginning his or her health care coverage and may be included in an SPD.  If an employer decides to physically deliver the COBRA notice to new employees at the office it must remember to also mail a notice to any spouse who is covered by the health insurance plan.

Notice Upon Qualifying Event

COBRA requires employees and covered beneficiaries to inform the health plan sponsor when certain qualifying events, such as divorce, legal separation, and a dependent no longer qualifying under the health plan occur. This notice triggers the employer’s responsibility to provide the COBRA notice and election information to the individual entitled to COBRA coverage.  Employers must now establish reasonable procedures for employees to follow when they are required to provide notice of these qualifying events. Procedures will be viewed as reasonable if they are set forth in the health plan SPD and specify who must receive notice and what must be included in the notice.  An employer may require that a specific form be used as long as that form is free and easily available to the employees.

Plan Administrator Election Notice Obligations

When an employee and/or a qualified beneficiary loses health coverage, they are entitled to a minimum amount of time to elect COBRA coverage.  There has been some confusion about the amount of time an employer has to provide this election notice.  Some employers administer their COBRA coverage in-house and others outsource this function to a third-party.  If the employer is the plan administrator, the election notice must be provided within 44 days after the employer receives notice of the qualifying event.  If there is a separate plan administrator, that plan administrator must provide an election notice to the covered employee or qualified beneficiary within 14 days after receiving notice of a qualifying event.  In this case, the employer must provide the third-party plan administrator notice of the qualifying event within 30 days of receiving the qualifying event notice.  The end result is the same; the employee should receive an election notice within 44 days of notifying the employer of his/her qualifying event.  The election period then extends for 60 days after the election notice is provided.

New Notices

Just when you thought that there couldn’t be any additional notices in connection with COBRA, the DOL has proposed two additional notices for plan administrators and employers to provide.  If an individual’s COBRA coverage will be ending early, for example due to non-payment of premiums or termination of the group health plan, the plan administrator must provide the individual with a notice as soon as practicable after it is determined that coverage will end.  This notice must state the date of termination and the individual’s rights upon termination.

If it is determined that an individual is not entitled to coverage upon a qualifying event, the plan administrator must provide the individual with notice of and the reason for non-coverage within 14 days of notice of the qualifying event.

Flexible Spending Accounts may now reimburse for over-the counter medications.

Employers who have flexible spending accounts (“FSAs”) that allow employees to be reimbursed for certain medical expenses are always looking for guidance regarding what types of expenses can be reimbursed.  The employer must first look to the terms of its own plan document because these must be followed unless they are in violation of IRS rules.  The plan document should define the types of expenses that are reimbursable.  Many times the plan document will refer to medical expenses that are deductible under Section 213 of the Internal Revenue Code (the “Code”).  Section 213 allows a deduction for certain medical expenses, but does not include non-prescription


Over the last several years many medications that were formerly available only with a prescription have been reclassified as over-the-counter medications.  Employees who were paying modest co-pays for certain medications are now paying higher costs for the same medication because, as a non-prescription medicine, it is no longer covered under their health plan.  Most FSAs only reimburse for medical expenses that qualify under Code Section 213, which means that employees are faced with higher medical costs that cannot be reimbursed through their FSA or deducted from their income tax as a medical expense.

In what appears to be a response to the growing trend of medications switching from prescription only to over-the-counter, the IRS recently released guidance allowing reimbursement of over-the-counter medications through an FSA. This is good news for employees faced with higher health costs.

Over-the-counter medicines like antacids, allergy medicine, pain relievers or cold medicines used for “medical care” may now be reimbursed.  Even with coverage of over-the-counter medicines, there are still certain expenses that are not reimbursable under an FSA.  These include teeth whiteners, dietary supplements (e.g. vitamins) and toiletries, cosmetics and sundries.

The IRS guidance allows for, but does not require, reimbursement of over-the counter medications, effective as of January 1, 2003, through an FSA.  If an employer wants to provide for reimbursement of over-the-counter medications, it needs to review its plan document to determine if the terms of the current plan allow for this type of reimbursement.  If the plan does not provide for reimbursement of over-the-counter medications or limits reimbursement to medical expenses allowed under Code Section 213, the FSA will have to be amended.  An employer will also need to revise the SPD and its administrative forms and policies to reflect the new items that are reimbursable under the FSA.   Employees may not change the amount of their current elections as a result of these changes.

Although this change may be made immediately, many employers will want to make these changes effective January 1, 2004 in connection with other benefit plan changes they may be instituting.   This is a good time to look at the maximum reimbursement amount allowed under your FSA.  These recent changes may prompt employees to increase the amount of money they contribute to their FSA accounts.  If an employer does increase the maximum reimbursement amount, the full amount elected by an employee must be available for reimbursement immediately.  This means that if an employee elects $5,000 for his/her medical FSA account limit and submits receipts for $5,000 of medical expenses on January 15, 2004, he or she must be paid the full $5,000 even though only a small fraction of this amount will have been deducted from his/her pay.  Furthermore, if the employee leaves before the full $5,000 has been deducted from his/her pay, the employer is not entitled to get that money back.

FSAs, like other benefit plans, are optional programs that may be offered by employers to help recruit and retain employees. If an employer offers the plan, the employer must comply with the rules that apply to the plan.

Retirement Plans

If you maintain a qualified retirement plan you must follow all the rules set forth in the code to keep your plan qualified and the monies invested tax deferred.  That task is not an easy one.  Even the IRS understands that employers sometimes make mistakes when administering their retirement plans.  Rather than automatically disqualifying plans that are not in compliance, the IRS set up a program several years ago to encourage employers to voluntarily look for and correct their own mistakes (sometimes with IRS approval). The program is known as the Employee Plans Compliance Resolution System (EPCRS).

EPCRS allows employers to self-correct certain (recent or small) plan disqualification defects, as well as submit proposed corrections to the IRS for correction of older or larger plan problems.  If you sponsor any retirement plan, year-end is a good time to review the plan’s operations to make sure the plan is in compliance with its terms and the Code. If you find a problem, you can contact a professional who will work with you to determine the scope of the problem and how best to correct it.  Even if the problem requires submission to the IRS and payment of a “compliance fee” under EPCRS, this is often better (and cheaper) than the result if the IRS discovers a violation during an audit.

Now that you have looked at your health and retirement plans to make sure they are running well, remember that in 2004 an individual can defer $13,000 into his/her 401(k) or 403(b) account.  Also, if an individual is over age 50, and the plan allows it, an additional $3,000 in a catch-up contribution is permitted.


Given the relative complexity of the applicable regulations, the term

“employee benefit plan” seems entirely appropriate.  If their employees are to obtain the benefits, savvy employers must indeed plan ahead.