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A Service of OnQue Technologies, Inc. |
IRS COBRA Audits and Penalties
Are you prepared? |
March 27,
2003
Santa Rosa, CA |
This COBRA Tip explains IRS penalties for failure to comply with COBRA rules, describes what examiners look for when auditing your company and suggests steps you can take
to be prepared for a penalty-free IRS audit.
Both the DOL and the IRS Can assess penalties for COBRA violations. Employers and plan administrators are subject to tax penalties for failing to properly
implement the federally mandated procedures for COBRA administration. The Department of Labor (DOL) and the Internal
Revenue Service (IRS) each have authorization to independently assess penalties for COBRA noncompliance. The DOL
assesses "ERISA statutory penalties," and IRS penalties are labeled "excise taxes." Each agency follows its own rules
for setting the amounts assessed for COBRA noncompliance, which can range from minimal to huge depending on the type,
duration and willfulness of the violation.
The Basics of IRS COBRA Excise Taxes
The IRS is authorized by TAMRA
to assess COBRA excise taxes. A little-known
federal law with a big name, the Technical and Miscellaneous Revenue Act of 1988, commonly known as TAMRA, authorizes
the IRS to assess excise taxes for failure to follow COBRA rules. Prior to the passage of this law, the IRS punished
employers for COBRA noncompliance by disallowing all deductions for expenses paid for group health plans in the year in
which the failure first occurred and all subsequent years, including the year in which the failure was corrected. Internal Revenue Code section 4980B sets out the IRS' COBRA provisions and incorporates the excise tax penalties as they apply to violations after
1988.
Who is liable for the excise tax penalty? In the case of a plan other than a multi-employer plan, the employer and each person
responsible for administering benefits under the plan who caused the violation is liable for the tax. (But persons who
act in their capacity as employees are exempt from liability.) And employers can even be held liable for failures in
COBRA administration made by previous employers. In the case of a multi-employer plan, it is the plan that is liable
for the penalties.
Keep in mind that merely contracting out COBRA administrative
responsibilities to third-party administrators does not insulate employers from liability for COBRA violations. Several
courts have ruled that simply hiring an agent to administer COBRA is not sufficient to satisfy the legal requirements.
(See Related Court Cases below.)
What are the penalties? Although no longer as harsh as the penalties prior to TAMRA, current IRS COBRA sanctions
still have sharp teeth. The excise tax penalty is $100 per day for each day of noncompliance, but if there is more than
one qualified beneficiary with respect to the same violation, the maximum amount of tax for any day is $200 per
family.
How high can the penalties go? Even greater penalties may be assessed for violations that are not
corrected before the employer is notified by the IRS of an impending audit, or that occur or continue during the
examination period. Penalties may be as high as $2500 for each beneficiary affected by the failure to comply, or the
total amount based on the length of the noncompliance period, whichever is less. And if the IRS finds a violation that
it considers to be more than just minimal, employers may be subject to a penalty of as much as $15,000. The maximum any
employer could be taxed in a given year is $500,000 or ten percent of the health plan costs in the previous year,
whichever is less.
How is the period of noncompliance computed?
The period of noncompliance for purposes of setting the penalty is
computed from the date on which the violation first occurred and ends on the date the failure is corrected, or six
months after the last day that continuation coverage for that beneficiary would have ended, whichever is
sooner.
Does the IRS allow a grace period?
The IRS will not assess a tax if the COBRA violation proves to be
inadvertent or negligent and the employer corrects the violation within 30 days of discovering the violation. But if
the IRS concludes that the violation was willful, this 30-day grace period does not apply. IRS agents are authorized to
reduce or waive excise taxes based on whether they perceive the noncompliance to be inadvertent or
willful.
IRS COBRA Audits
The IRS defines an audit as "an inspection of an individual's or
an entity's books and records. In addition, an examination involves the questioning of witnesses to determine the
correct tax liability." Generally, COBRA audits come about because a complaint or lawsuit has been filed by a former
employee who believes he or she was wrongfully denied benefits, but an examination of COBRA procedures may also be done
by the IRS as part of a general business audit.
What do auditors
look for? If you are the subject of an IRS
examination or compliance review, you will be expected to produce records and documents relating to your COBRA
compliance procedures, including but not limited to:
- Copies of all group health Summary Plan
Descriptions (SPD);
- A copy of a written COBRA administration
procedures manual — a step-by-step description of the process and controls you have implemented;
- Proof of training of individuals responsible
for COBRA compliance and the identities of such persons;
- Copies of notices, letters and other documents
used in administering COBRA;
- Information regarding any past or present
lawsuits against the employer for violations of COBRA procedures; and
- All documents relating to a specific qualified
beneficiary, especially if that person initiated the IRS investigation.
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Note that there is no rule or
regulation requiring an employer or administrator to maintain a written COBRA procedures manual. Nonetheless, the IRS
will expect to see documentation describing your internal control procedures. Having an up-to-date procedures manual
will go a long way toward showing that you are administering COBRA properly.
How can IRS
penalties be avoided? Accurate documentation
is everything! IRS audits of COBRA compliance procedures may not be widespread, but it can take only one
disgruntled former employee to trigger an audit -- and the stakes can be high. Employers and
administrators should:
- Always send COBRA notices on time and to the
proper parties.
- Carefully maintain records that accurately
track and document COBRA implementation.
- Stay current with relevant COBRA rules and
court interpretations of COBRA issues. This is crucial to the proper administration of COBRA.
- Maintain your Summary Plan Description, COBRA
procedures manual, and notifications to reflect the latest changes in COBRA rules. Out-of-date compliance documents may
be an indication that the employer has failed to comply adequately with COBRA implementation.
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| Related Court Cases |
| Employer Can't Hide Behind TPA for COBRA Violation |
| Employer, Not TPA, Was Liable for
COBRA Violation |
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This information is provided by
OnQue Technologies, Inc. for educational purposes only and does not constitute
legal advice. If legal advice or other professional assistance is required, the
services of a competent professional should be sought.
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