Compliance with the Affordable Care Act (ACA) hinges on the concept of “applicable large employer” status. If in 2014 an employer has 100 or more full-time equivalents, then that employer will be considered a large employer for ACA purposes in 2015, subject to the pay-or-play penalties and the related affordability and minimum value requirements, as well as additional annual reporting requirements. If the employer has fewer than 100 full-time equivalents in 2014, then that employer will not be considered a large employer for ACA purposes in 2015 and will not be subject to those rules in 2015.
When determining large employer status for 2016 and thereafter, the threshold is lowered 50. So if in 2015 an employer has fewer than 50 full-time equivalents, then the pay-or-play penalties and reporting requirements will not apply in 2016; if it has 50 or more, then they will. Easily stated. Not so easy to apply.
Counting Full-Time Equivalents
Large employer status is measured by a monthly count of full-time equivalents, not full-time employees. There’s a big difference. The ACA defines “full-time employee” as a person working 30 hours a week or more, on average. (The IRS then took 280 pages to explain that definition, by the way.) “Full-time equivalent” takes into account part-time employees as well.
First, remove from consideration the following people:
- US expats working overseas,
- 414(n)(2) leased employees (a specific kind of leased employee),
- the sole proprietor (if the employer is not incorporated),
- partners of the employer partnership (if the employer is a partnership), and
- owners of 2% of more of the shares of the employer corporation (if the employer is a sub-S corporation).
Next, for any given month, add up the number of people who worked 120 hours or more that month (and for non-hourly employees, those who were credited with 120 hours or more). That's the number of full-time employees. Put that number aside. Then separately add up all the hours worked that month by the rest of the employees, whether the positions are part-time or are full-time but the employee didn't reach 120 hours, and divide the total number of hours by 120. Round the result to two decimal places. Add to that figure the number of full-time employees I said to put aside. That’s your number of full-time equivalents for a given month.
Here’s a crude formula: full-time equivalents = # of FT ‘ees + (all other ‘ee hours / 120)
But wait. How do you determine the number of employees for a given the month if your employee count fluctuates throughout the month? In writing the pay-or-play regulations, the IRS didn't answer that question, but in discussing the issue with the American Bar Association's Joint Committee on Employee Benefits, it did shed some light. It appears that a full-time employee who worked a partial month (and thus who was not credited with 120 hours of service that month) will simply be considered a part-time employee whose hours count toward the pool of hours divided by 120--in other words, part of a full-time equivalent. So it looks like the IRS is interpreting the applicable large employer rules as broadly as possible to capture as many employers as possible.
Basic Methodology of Applicable Large Employer Status
Large employer status is determined on a calendar year basis using headcounts from the prior calendar year. The plan year is irrelevant for large employer status; it’s a calendar year determination regardless of whether the employer uses a fiscal plan year. There’s a little variation in determining large employer status for 2015, but for the most part large employer status for a particular year is determined by averaging the monthly headcount of full-time equivalents over the course of the prior calendar year. So you add up all 12 monthly full-time equivalent head counts (which should have two decimal places) and divide by 12. Drop any decimal places from the result, so 49.99 average full-time equivalents becomes 49, for example.
If the 2014 average monthly full-time equivalent headcount is 100 or greater, then the employer is an applicable large employer in 2015. If the 2014 average monthly full-time equivalent headcount is between 0 and 99, the employer is not.
If the 2015 average monthly full-time equivalent headcount is 50 or greater, then the employer is an applicable large employer in 2016. If the 2015 average monthly full-time equivalent headcount is between 0 and 49, the employer is not.
The same rules apply to any subsequent year. If the 2016 average monthly full-time equivalent headcount is 50 or greater, then the employer is an applicable large employer in 2017. If the 2016 average monthly full-time equivalent headcount is between 0 and 49, the employer is not.
As mentioned before, there’s one exception to this methodology for 2015 large employer status. Instead of looking at all of calendar year 2014, an employer can use any 6 consecutive months in 2014 to determine large employer status in 2015, in which case after adding up the 6 monthly headcounts you divide by 6 instead of 12. (However, if an employer wants to make use of the seasonal worker exclusion, which we’ll detail in a subsequent post, then the employer must use all 12 calendar months in 2014.)
Affiliated Employers Are Aggregated
Large employer status is determined on an aggregated basis for controlled groups (companies affiliated by ownership) and affiliated service groups (companies affiliated by services provided to each other). If in 2015 two companies in a controlled group each have 30 full-time employees and enough part-time employee hours to equal 5 full-time equivalents (and no employee works for both companies), then they will both be considered large employers in 2016 because together they will have 50 or more average monthly full-time equivalents (70, to be exact).
Note that the aggregation does not take place after each company has determined its average monthly full-time equivalents. While it would be nice to just add up the full-time equivalents for each employer in the controlled group, it doesn't work that way. The hours and employees for every controlled group company are pooled together before you perform any calculations.
This means that if an employee worked for two controlled group companies, 25 hours for one company and 5 for another, that employee is a full-time employee and goes in the full-time employee bucket. If another employee worked 10 hours for one company and 10 hours for another, then 20 hours are put in the part-time employee bucket. (And then the entire bucket of hours is divided by 120, and that result is added to the full-time employee count to get full-time equivalents for the controlled group.)
Also, while there are no controlled group rules for nonprofits, churches or governmental units, they too can be aggregated with other employers for ACA purposes if, applying and interpreting the controlled group rules in good faith, there is a close enough analogy.
Finally, QSLOB rules are not applicable under the ACA, so related employers that don’t have to aggregate for discrimination testing purposes will have to aggregate for the ACA.
Grace Period for Employers New to the 50+ Club
In order to have time to calculate average monthly full-time equivalents and get health insurance, if necessary, an employer that becomes a large employer for the first time has until April 1 of the year it earned that badge to get affordable, minimum-value health coverage in place before penalties kick in.
What about Recently Established Companies?
If a company didn’t have employees in certain months because it wasn't in existence then, it might be nice to use zeros for those months and divide by 12, but that’s not how the rules work. Instead, the first two years of large employer status are determined using a different methodology than has been described thus far.
For the first calendar year or partial calendar year the employer is in existence, large employer status is a function of the employer’s “reasonable expectations” at the time the business comes into existence. If subsequent events (such as a spike or dip in sales) cause the actual number of full-time equivalents to differ from the employer’s reasonable expectation, those won’t cause the employer’s status to change. Basically, if the business plan or business model canvas suggests that there will be a workforce of 50 or more full-time equivalents (100 or more full-time equivalents for 2015), then that’s what the company’s status will be based on. If the company is a from-scratch, husband-and-wife startup using the couple’s savings, then that’s what the company’s status will be based on.
For the second calendar year of the company’s existence, large employer status is determined by averaging the prior calendar year’s actual monthly full-time equivalent headcounts over the number of months the company was in existence that year.
So if a company was started in June of 2015, its 2015 large employer status is based on the expectations of the company (probably measured by the expectations of the company’s owners and executives) at the time the company was started. Its 2016 large employer status is based on the actual average monthly full-time equivalents in 2015, averaged over 7 months (June through December).
If a company was started in June of 2014, it wouldnt look to the employer’s reasonable expectations because there is no large employer status for 2014; pay-or-play was delayed to 2015. The first year of large employer status is 2015, and it would look to the actual average monthly full-time equivalents in 2014 to determine its 2015 status.
Note that there are predecessor and successor employer concepts in the rules as well, so if the company is recently established in the M&A context, you might want to pop off a question about your specific situation.
Images courtesy of a neat Obamacare infographic by Signs.com.