MLR Rebate Allocation

As part of the Affordable Care Act, insurance companies are required to spend a certain percentage of premiums received for medical services and the improvement of health care quality. If insurance companies’ aggregate spending does not reach the required Medical Loss Ratio (MLR), which is 80% in the small/individual market and 85% for large groups, the insurer must provide the excess back to policyholders in the form of a rebate.

Although each individual subscriber will receive a notice about the potential receipt of a rebate, any rebates that are issued will be paid to the “policyholder,” which will generally be the employer. The policyholder will then be responsible for allocating rebate amounts. Of course since the allocation of the rebates is regulated by the government, the process can get complicated rather quickly.

Assuming the policyholder is the employer (and not the “plan” or a trust), the allocation of the rebate amount should be based on the percentage of premiums paid the employer and employees respectively. For example, if the employer pays 60% of the premiums and employees pay 40%, a rebate amount of $20,000 would be divided with $12,000 going to the employer and $8,000 due to employees. The employer has several options for distributing the employee portion of the rebate, such as a cash refund to current plan participants or crediting the rebate toward premiums due the following year. HHS has clarified that rebates will go to current enrollees at the time the rebate is issued, even though MLR calculation is based on data from the prior policy year.

The tax consequences of the rebates will depend on how premiums are paid. Assuming premiums are paid on a pre-tax basis under a cafeteria plan and the rebate amount is used to reduce future premiums due, the rebate would be taxable to that employee since the salary reduction would also be reduced. For example, an employee’s monthly portion of the premiums is $100 per month, which is deducted from his gross income. If that receives a premium credit in the amount of $5 per month, his salary reduction would only be $95 giving him an extra $5 in taxable income.

To view frequently asked questions and responses from the IRS please refer here.

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About Dawn Kramer

Dawn is an attorney and Certified Employee Benefit Specialist (CEBS) in J.W. Terrill’s Consulting Services department. She advises clients on legal and regulatory issues affecting their employee benefit plans.

View all posts by Dawn Kramer

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