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Your Guide to Nondiscrimination Rules for Employee Benefit Plans

In 2018, America’s Health Insurance Plans (AHIP)—a trade association for health insurers—conducted a study on the impact that healthcare coverage has on employee retention. The study revealed the following:

  • 56% of adults with employer-sponsored health benefits said that liking their health coverage was a critical factor in staying at their current job.
  • 46% of adults said that health insurance was either the deciding factor or a positive influence in choosing their current job.

These numbers alone reveal the importance of employer-sponsored health benefits and the positive impact that they can have on both recruitment and employee retention. Following the pandemic, we can only imagine that these numbers have increased.

So how do you design a plan that your employees actually like and want? For starters, you must ensure that your policy’s plans are equally beneficial to employees across your company–no matter their position or net worth. This is known as non-discrimination, and government regulations—at both federal and state levels—are in place to ensure compliance.

If you are searching for a new plan for your company, read on to learn more about nondiscrimination rules for employee benefit plans. Afterward, contact our team to learn more about our ACA compliance resources and legal counsel services.

Nondiscrimination Rules & What You Need to Know

Non-discrimination rules apply to the majority of benefits you offer your employees. There are several benefit types in which the IRS requires nondiscrimination testing. Essentially, nondiscrimination rules ensure that key employees and highly-compensated employees are not given preferential benefits due to their status.

What Is a Key Employee?

A key employee is a person who meets at least one of these three specific criteria in the previous plan year.

  • The employee earned at least $200,000 in 2022.
  • The employee is a 1% owner or the spouse or dependent of the 1% owner, and they earn $150,000 per year or more
  • The individual is at least a 5% owner in the company; they are considered “key” regardless of how much they earn annually.

What Is a Highly-Compensated Employee?

A highly-compensated employee (HCE) is a bit similar to a key employee in a few ways, but HCEs have their own set of criteria.

  • Any person who has been a company officer within the past year or a shareholder with at least a 5% stake in either a current or prior year.
  • A person may be classified as an HCE if they were paid $135,000 in 2022 or if their salary is in the top 20% of all employees within the company.

Nondiscrimination Testing

To ensure that nondiscrimination compliance is upheld, the federal government has strict regulations in place. These specifications are found in IRC Section 125, Section 105, and Section 129. To uphold these regulations, tests and documentation must be completed annually for every qualifying benefit plan offered. Any results or documentation uncovered throughout this process may be subject to an official IRS audit.

Policies Subject to Testing

Although nondiscrimination rules apply to all the benefits you offer employees, the IRS only requires nondiscrimination testing for certain benefits. Two of the most common benefits that require nondiscrimination testing are cafeteria plans and 401(k) plans.

  • Cafeteria plans and plans governed by Section 125 require nondiscrimination testing by the IRS. This includes flexible spending accounts (FSAs). Other healthcare benefit areas where nondiscrimination testing is required (although not under Section 125) include health reimbursement arrangements (HRAs), and self-insured medical plans (SIMPs).
  • 401(k) plans are another common benefit that requires nondiscrimination testing. There are two annual nondiscrimination tests that you must pass as a 401(k) sponsor. These tests include The Actual Deferral Percentage (ADP) test and The Actual Contribution Percentage (ACP) test. In many circumstances, plans must also pass a third compliance test, the Top-Heavy test. These tests must be completed and passed each year or else your 401(k) plan will be subject to additional employer contribution to keep the plan in qualified status. Luckily, the IRS provides a free 401(k) Fit-It Guide to help keep you compliant.

The list above is by no means all-inclusive. To ensure that all your policies are compliant, contact our team at Beckham Insurance Group to learn about our legal counsel services and compliance resources.

Are Discriminatory Plans Still Permitted?

In short, yes. If a company chooses to offer nonqualified plans, those can be discriminatory or selective. These plans are tax-deferred and employer-sponsored programs that generally work to help employees save money for their retirement plans.

There are four basic types of discriminatory plans including deferred-compensation plans, executive bonus plans, split-dollar life insurance plans, and group carve-out plans. These contributions don’t cost employers anything in taxes, but they will cost the employees who engage in them. This tax payment isn’t required until the employee retires, but it can come at a steep price.

Key Takeaways

Nondiscrimination rules work hard to protect employees’ benefit rights and keep them fair for everyone–regardless of their income or position within the company. And while certain unregulated discriminatory policies are still operational, the vast majority of policies have become subject to these federal rules, tests, and audits. Generally, larger companies have a good idea of how to navigate these tests. However, these regulations and tests are often overwhelming for small business owners.

If you need help navigating the complicated world of employee benefits, Beckham Insurance Group has you covered. Located in Charleston, SC, and St. Simons, GA, we are proud to offer online enrollment tools, ACA resources, group health insurance, and more. To learn more, contact us today for a free quote!