Effect of Furloughs on Employee Benefits

In order to avoid layoffs and reduce costs, many employers are imposing unpaid leaves of absence, or furloughs, on active employees.  How do these leaves affect employee benefits?

Section 401(k) and Profit Sharing Plans
 It may be more difficult for furloughed workers to meet the 1,000 hour service threshold, permissible under the tax code and often defined by employers.  Some employees may have to wait an additional eligibility period, such as until their next anniversary.   The same issue could arise with respect to eligibility requirements for profit-sharing plans, and vesting in pension plans.
Unpaid leaves also could affect employer matches and profit sharing contributions.  How matches have to be paid is defined by the plan documents.
If an employee has borrowed from his/her 401(k), which may be a more frequent occurrence in today's economy, 401(k) plan loan repayments could also be affected, as such loans are usually repaid through salary reductions.   If a leave is unpaid, the employee will have to write a check or s/he could go into default.
Employers can address some of these problems by amending plan documents to credit employees for service during furloughs.
Health Insurance
Some employees also may lose health insurance if their hours dip below the threshold to participate in an employer's plan.
In order to address this issue, employers could again treat furloughed employees as active for insurance purposes.  Employers also could modify their plan documents and contracts with insurers to cover employees who work fewer hours.
COBRA Subsidy
Employees who lose insurance due to a reduction in hours or furlough are generally eligible to continued coverage under COBRA, but may not be eligible for the new COBRA subsidy of their premium payments.  Under the new COBRA subsidy, if an employee is forced to quit due to a reduction in hours or furlough, the separation could be an involuntary termination qualifying the employee for the COBRA premium subsidy.
Other Fringe Benefits
Employee contributions to flexible spending accounts also may be affected, for example if an employee needs less daycare because s/he is on an unpaid leave of absence.  Whether an employee can change his/her election depends on whether that employee qualifies as having a change in status under Section 125.  A reduction in hours alone may not be enough.
Employer Benefits
Employer policies, such as those in an employee handbook, should address how eligibility for or accrual of employer-provided benefits, such as paid time off or tuition assistance, are affected by voluntary and involuntary unpaid leaves, and employees on unpaid statutory leaves, such as under the Family and Medical Leave Act, or other applicable state leave laws, should be treated as favorably.



Loss of Benefits Can Mean Loss of Talent

In an effort to reduce costs, many employers are cutting employee benefits, including health insurance, 401k matches, cost of living increases, bonuses, company cars, and tuition reimbursement. Employers may be cutting severance packages as well.  

Benefits matter to employees. A recent MetLife study (Study of Employee Benefit Trends: Findings From the National Survey of Employers and Employees) concluded that there is a "perception gap" between employers and employees on the role of benefits, especially health and retirement benefits, in building loyalty. Employees also value the availability of voluntary benefits, such as long term or elder care.

Employers looking at cutting benefits should consider the following:

- Reducing benefits can have a negative impact on employee morale and loyalty.

- Benefits must be offered in a non-discriminatory manner. Employers should make sure that the elimination of any type of benefit does not have a disparate impact on any protected group.

- Benefits must be offered consistent with plan documents or an employee may have a contractual claim for the benefits and possibly even uncovered expenses (such as medical expenses).

- Employers may also be contractually bound to offer benefits pursuant to individual agreements, such as employment or severance agreements.

- Employers should make sure their employee handbooks do not create a contractual obligation to pay benefits by including the appropriate disclaimers in the handbook.

- Eliminating benefits could hurt an employer's ability to attract and retain talent. There is a wealth of talent available, and this market may be a good opportunity for businesses to attract stronger candidates. A good benefits package could be a draw.

- Finally, unions may be more attractive to employees who experience a loss or reduction in benefits.

A choice between layoffs and cutting benefits for existing employees may be a decision between the lesser of two evils. If an employer is unwilling to lose talent through a reduction in force, it should make sure it does not inadvertently cause the same result by cutting benefits that are so important to employees.

COBRA Clarifications

The IRS and Department of Labor has issued interim guidance to address, at least in part, some of the many questions raised by the changes to COBRA implemented by the American Recovery and Reinvestment Act of 2009. 

There are two signficant aspects to the new COBRA requirements: the notice and the subsidy.

Notice: Every employee who had a qualifying event  since September 1, 2008 is entitled to the new notice; that includes employees who resigned even though they are not entitled to the subsidy.   By April 18, 2009, plans must notify eligible individuals of a second election opportunity that gives the employee 60 days to elect COBRA coverage, which would be prospective.  The daily penalties for failure to provide the required notice are severe.  Model notices have not yet been issued by the Treasury Department.

Subsidy: Employees who lost coverage as the result of an involuntary termination of employment are entitled to a subsidy of 65% of their COBRA premium for up to nine months.  The subsidy ends sooner if the individual becomes eligible for coverage under Medicare or another health plan, or when the maximum COBRA period is exhausted.  The premium reduction begins February 17, 2009, so as of now it does not appear to be retroactive to September 1, 2008. 

Even termination for performance related issues or for cause is covered.  If the employee is not eligible for COBRA because s/he was terminated for "gross misconduct," then the employee would not be eligible for the subsidy - but what constitutes gross misconduct is extremely limited.

The IRS has modified Form 941 to include a line for reporting COBRA subsidies.  While supporting documentation is not required, employers should keep accurate records of the notice and subsidies. 

For more detailed information, see our recent Alert on this issue at: www.foxrothschild.com/uploadedFiles/alert_feb09_Labor

More guidance is expected.  Stay tuned.



Section 409A in 2009 and Beyond...

Posted by Seth I. Corbin, Fox Rothschild LLP

Now that the rush to amend all existing deferred compensation plans to comply with Section 409A has passed, the buzz surrounding Section 409A has quieted significantly. Although the transition period to bring documents into compliance ended on December 31, 2008, the same Section 409A issues employers and employees have struggled with for the past several months extend into 2009 and are likely here for many years to come. Namely, deferred compensation plans must continue to comply with the onerous Section 409A requirements, in both form and operation, in order to avoid the tax and penalties associated with any violation.


Section 409A implicates a variety of deferred compensation arrangements, including severance pay agreements and employment agreements that provide for severance, salary continuation, separation pay, and even bonuses. As many businesses are forced to consider workforce reductions in 2009, it is imperative that employers remain mindful of Section 409A. A failure to comply with Section 409A could result in the immediate recognition of income to the employee, a 20% excise tax penalty, and IRS interest. Additionally, employers have enhanced reporting and withholding responsibilities.


The final regulations under Section 409A apply to severance plans and refer to such plans as “separation pay plans.” Although the Section 409A regulations exclude certain separation pay plans from coverage under Section 409A, each separation pay plan must be carefully examined on a case-by-case basis to determine whether Section 409A applies and, if so, whether the plan should be revised to comply with its requirements.


Section 409A generally prohibits the acceleration of payments, the discretion to alter a payment schedule, and limits offsets against payments under a separation pay plan. These prohibitions can often be avoided with careful drafting of separation pay plans and without disrupting the original business intent of the parties involved. Additionally, reimbursements under a separation pay plan of an employee’s deductible medical expenses are excluded from Section 409A to the extent the right to reimbursement applies during the period when the employee would be entitled (or would, but for such plan, be entitled) to COBRA continuation coverage if the service provider elected the coverage and paid the applicable premiums.


In a bit of good news, the IRS recently announced a limited correction program for inadvertent and unintentional Section 409A operational failures. The correction program permits self-correction with reduced penalties for such operational failures as erroneous payments of deferred compensation and impermissible acceleration of payments. While not all failures may be corrected using this program, it remains a valuable option if and when Section 409A errors are discovered.


For more detailed on the status of 409A see our recent Alert: www.foxrothschild.com/uploadedFiles/alert_feb




Significant Changes to COBRA Enacted

The recently enacted American Recovery and Reinvestment Act (economic stimulus package) includes significant changes to how employers must offer continuation of health benefits under COBRA and state continuation laws (mini-COBRA)  to employees who were involuntarily terminated between September 1, 2008 and December 31, 2009.  

Employers now must subsidize the premium payments for qualified beneficiaries for 9 months.  The employer will pay 65%; the employee 35%.   If the employer is voluntarily paying a portion of the COBRA premium already, then the employer must pay 65% of the balance.  The subsidy will begin with the first premium payment following the Act's enactment on February  17, 2009 - generally March 1.  The subsidy ends when COBRA coverage would otherwise end.

Employers can take a tax credit for the subsidy, but not for COBRA payments they are already voluntarily paying.

Taxpayers whose federal modified adjusted gross income is more than $145,000 ($290,000 for a taxpayer filing a joint return) are not eligible for the subsidy.  Accordingly, employees can take a one time waiver of the subsidy.

Employers must offer continuation coverage to employees who suffered a qualifying event between September 1, 2008 and the enactment of the Act, even if they originally rejected coverage.  The election period is 60 days, and coverage will begin February 17 and run through the end of the original COBRA period.

While new notice forms should be issued within 30 days, in the meantime employers should develop their own form or update existing forms to provide notice of the subsidy.  In addition, employers must keep accurate records of subsidy payments, as more specific reporting requirements are to come.

These changes should be taken into consideration in a cost analysis of any RIF.  In addition, many employers offer payment of COBRA premuims for some period to employees as consideration for a release of claims.  Only the portion of the premium for which the employee is responsible can be used in this way. 

For more information on these significant developments, visit our Employee Benefits Blog: http://employeebenefits.foxrothschild.com/