ACA penalties are real: What to do if you receive IRS Letter 226J

It may be 2018, but 2015 is still top of mind – at least in terms of Affordable Care Act (ACA) reporting.

The IRS has been sending penalty letters to applicable large employers (ALEs) that may be liable for employer shared responsibility payments (ESRPs) from 2015 under the ACA.

This is the first year the IRS is sending Letter 226-J to employers, so there are bound to be questions. We’re here to help explain what the letter means and what you can do to avoid paying expensive fines.

Who gets an IRS letter?

The IRS is sending Letter 226-J to ALEs they find to be in violation of ACA requirements, which could come for several reasons – not filing with the IRS, not providing 1095-C forms to employees as required, not offering health care coverage that meets the affordability standard, or not providing health care coverage that meets minimum essential coverage requirements.

To determine who owes an ESRP, the IRS reconciles information from forms 1094-C and 1095-C, which are filed by employers. The IRS then compares the information to employees’ individual income tax returns, as well as forms filed by exchanges to determine if an employee received a subsidy. If there’s any discrepancy, the IRS will flag it, and an ALE will receive a letter.

What penalties come with Letter 226-J?

There are two penalties the IRS can impose, which we’ll call “penalty A” and “penalty B.”

Penalty A is when an employer doesn’t offer health care coverage to an employee. This is the more common scenario and carries a significant fine of $173.33 per employee per month. If at least 70 percent of employees were not offered coverage in 2015 (or 95 percent of employees in 2016 and 2017 reporting), and at least one full-time employee buys health insurance in the marketplace and receives a subsidy, this penalty is triggered.

The original penalty amount in 2015 was $173.33 per month multiplied by the total number of full-time employees the employer had in that month except the first 30 employees multiplied by 12 months in the year. And if you think that’s bad, the 2018 penalty will be $193.33 per month. If found to be in violation, employers must pay for every single employee (minus the first 30). So if you have 100 employees and didn’t offer any of them health care coverage, under the IRS penalty A, you’ll pay the fine for 70 people—over $140,000.

Penalty B is less common, but still significant. This penalty occurs when an employer offers health care coverage to an employee, but it’s unaffordable or does not meet minimum essential coverage. The fines for penalty B are much less in part because an employer is expected to pay for only the affected employees. If an employer didn’t offer affordable coverage in 2015 to one employee, then the employer pays a $260 fine for that one person. The penalty for 2018 escalates to $290 per impacted employee.

It’s worth mentioning that these penalties are for failing to offer coverage, not for failing to report. Health care reporting penalties are excluded because of the “good faith effort” put in place for 2015 and 2016 reporting. As long as you submitted information to the best of your ability, you won’t be dinged on accuracy, however not filing at all could trigger a penalty.

If I didn’t receive a letter, am I in the clear?

The devil is in the details, and that certainly applies to health care reporting and compliance. Be aware penalties are adjusted each year, so you may not be exempt from future notices.

In 2015, employers were responsible for offering coverage to at least 70 percent of their full-time employees. In 2016, that number increased to 95 percent of all full-time employees, and it held steady during 2017.

The IRS letters this year are for 2015 reporting, and letters for the 2016 and 2017 filing year are on the horizon. However, it’s a lot of data to work though, so the IRS could send additional notices.

What should I do if I receive IRS letter 226-J?

There are five important steps to take if you receive a letter.

1. Read your letter and attachments carefully. These documents explain the ESRP process and how the information the IRS received affects its calculation. The letter clearly outlines the steps to take if you agree or disagree with the proposed ESRP computation.

2. Consult with your advisor. Whether that’s a healthcare agent or broker, CPA, in-house counsel, or lawyer, get in touch. They can help craft a response to the IRS and answer any questions you may have. Employers also have the ability to claim an advisor as a “Power of Attorney and Declaration of Representative,” which allows the IRS to contact an advisor directly to discuss Letter 226-J.

Employers must respond to the letter within 30 days unless the IRS has explicitly granted an extension. Read the letter carefully – the IRS outlines each recipient’s responsibilities and required actions, and it’s imperative to follow the steps, whether or not you agree with the charges.

Within Letter 226-J, the IRS provides Form 14765, which includes a summary and specific calculation of the penalty amount, as well as a detailed list with information on each employee that triggered the tax.

To refute the claim, Form 14765 provides a section where you can offer a full explanation of your disagreement and indicate the changes and corrections in line. If you agree with the letter, you can pay electronically or by check.

3. Review all documents submitted. Ensure the accuracy of your 1094-C and 1095-C forms. You might find an employee on the list should be part-time rather than full-time based on your tracking of average hours of service. This means you would not have been required to offer them health care coverage to avoid a penalty.

Even if the mistake was submitted in error, employers can correct the data and explain it to the IRS as long as there’s supporting data. 

4. Keep a copy of the IRS letter, as well as any documents submitted to the IRS. Filing the information helps establish a record in case evidence is required in the future.

5. Establish good practices for future reporting. Having a solution that tracks employee’s hours of service based upon the regulations and populates 1095-Cs from benefits and tracking data is an important element to establish and document ACA compliance. Further, some employers require employees that waive coverage to sign a document acknowledging affordable, minimum essential coverage was offered. This serves as another piece of evidence in case the IRS comes knocking. All data and information supporting ACA compliance should be maintained and archived in preparation for future inquiries.

The penalties can be huge, but don’t panic

While the IRS has estimated there could be hundreds of billions of dollars in penalties, remember, if you do receive a letter from the IRS, it’s not technically a bill. You have a chance to make your case – with supporting evidence – to avoid penalties and fines.

This is still a relatively new process. We’re all learning as we go. By ensuring the accuracy of your data early on and keeping up-to-date ACA compliance practices and auditable records, you’re more likely to keep your business in compliance and create a trail of information for the IRS in case a letter finds its way to your desk.

We’ll be covering this topic further at the IPPA 2018 Sales & Marketing Conference in Las Vegas Feb. 19-21. Check out our session on Wednesday, Feb. 21 from 9 – 10 a.m.