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Contributed by David LeFevre, ERISAFire
In response to the coronavirus pandemic, many levels of government attempted to flatten the curve of infection, bringing many businesses in the U.S. to an unprecedented halt. Numerous employers were forced to shut down for the foreseeable future due to social distancing recommendations and shelter-in-place orders, or as a reaction to financial market turmoil and fears of a longer-term decline in the nation's economy. Millions of other businesses and employees are adjusting to remote work for the first time.
Flu pandemics and coinciding recessions are actually rather common if one has a long enough view of American history. For example, in 1957 and 1958, the H2N2 virus (referred to at the time as “Asian flu”) swept the globe, killing 116,000 people in the U.S. and more than 2 million people worldwide. A recession followed, and in some states the unemployment rate reached 11 percent.
Similarly, today employers are now having to make difficult decisions to keep their businesses afloat, and all options are on the table. Whether or not an employer should furlough employees, and how employee benefits and paid leave factor into such furloughs, is top of mind for many employers. Unfortunately, in most cases the answers begin with, “it depends.” This article addresses some of those dependencies.
Simple semantics can make a big difference with respect to employee benefits, so it's important to understand what is meant by “furlough.” Furlough is a term completely foreign to the federal labor and tax codes. Rather, it is a word of the common parlance but without a common, single definition. For that reason, it is critical for professionals to understand exactly what a particular employer—or even a particular representative of an employer, for that matter—means by “furlough.” Furlough can refer to a mere reduction in required work hours, including a reduction to zero, without a termination of employment. It can also refer to a short-term layoff in which there is a termination of employment, but in the course of communicating the termination of employment to employees, the employer tries to assure the employee that the time away is temporary.
The key to managing compliance and legal risks when considering furlough-type options is to break the furlough concept down into three essential components:
• Will employment be terminated or not?
• If employment is not terminated, will the furlough be considered a reduction in hours?
• If employment is not terminated, will the furlough be deemed a company-imposed leave of absence?
In each case the employee is not being paid, so from the employee's perspective, at least initially, these may appear to be distinctions without difference, but employers need to be mindful of how the employees’ workplace fringe benefits are affected. When deciding to furlough their employees, the employer should communicate very clearly what it means by “furlough” to prevent potentially costly misunderstandings.
If an employer answers the first question in the affirmative, and employment will be terminated, then the furlough is really a temporary layoff. In that event, the welfare benefits-related legal obligations generally consist only of offering COBRA continuation coverage for benefits subject to COBRA (e.g., medical, dental, vision, health FSA, EAP) and/or state continuation coverage and providing notice of conversion or portability rights under applicable life and/or disability insurance policies. 26 C.F.R. § 54.4989B-4, Q/A-1(b)(2), (c); Erwood v. Life. Ins. Co. of N. Am., 2017 BL 121342 (W.D. Pa. Apr. 13, 2017).
Employers can choose to subsidize COBRA continuation coverage and state continuation coverage, though, and the subsidy can be designed to effectively mimic the premium contribution structure that applies to active employees. In that case, the premium payment mechanics must be structured as a COBRA subsidy and analyzed as such. For example, COBRA subsidies are subject to nondiscrimination rules under I.R.C. Section 105(h) for self-insured benefits and I.R.C. Section 125 for insured benefits, meaning that an employer should not offer a COBRA subsidy only to executives or managers or others who qualify as highly compensated employees. 26 C.F.R. § 54.4989B-8, Q/A-1(a) (employers are permitted to charge “up to” 102%).
A COBRA subsidy does not necessarily have to mirror the employer-employee contribution split for active employees. There is room for creativity. The employer should consider how much of the cost to subsidize and for how long. Employers also need to clarify whether they will subsidize coverage for employee coverage only or include a subsidy for dependent coverage as well. Whatever the COBRA subsidy design is, the employer's COBRA qualifying event notices must reflect these COBRA subsidy details, and its COBRA third-party administrator must be flexible enough to accommodate the design.
One operational hurdle employers must consider is collection of employee contributions. There are no paychecks from which to deduct premium contributions. The COBRA premium payment regulations require that employees be permitted to elect COBRA coverage first and delay payment of the premium, which complicates matters in light of the fact that the layoff is, by design, supposed to be short-term. 26 C.F.R. § 54.4980B-8, Q/A-5(b). Employers should consider implementing a credit card- or EFT-based payment system to facilitate employee contribution payments to mitigate the cash flow crunch.
The primary advantages of a temporary layoff-style furlough are two-fold. First, employees will generally be permitted to file for state unemployment insurance benefits and receive the full benefit allowed under state law. Second, the employer's and its insurer's obligations will be clearly defined because there is a clear set of facts with a specific and unequivocal date of termination, and employees will be less tempted to make the facts less clear by working during furlough if employment is terminated.
Temporary layoffs work well when businesses are forced to shut down for longer periods of time (e.g., three months or more). There will be sufficient time for the post-termination obligations of all the parties to work themselves through the process. Shorter-term layoffs may prove impractical because of the administrative burden.
The primary distinguishing factor of a reduction-in-hours-style furlough is that there is no termination of employment. If an employer expects to be back up and running within a few weeks or a month, treating the furlough as a reduction in hours makes more sense logistically than a temporary layoff, but the benefits compliance and risk management issues become more complicated.
An employer's obligation to continue benefits under COBRA or state continuation coverage requirements during a reduction-in-hours-style furlough is highly dependent on the language of the employer's formal ERISA plan document (“wrap document”) and insurance policy terms. To trigger COBRA continuation coverage, there must be both a reduction in hours and a loss of eligibility. 26 C.F.R. § 54.4989B-4, Q/A-1(b)(2), (c). So, for example, if the eligibility language is the familiar “regularly scheduled to work 30 hours a week or more, on average” then one must ask whether the employee still eligible during the furlough period, how regular the employee's schedule needs to be to maintain eligibility, and over what period this average is determined.
A zero-hour workweek due to a fast-moving pandemic would certainly be irregular, especially if the furlough period is only a few weeks or a month. An employer or insurer could interpret the plan document or policy as not triggering a loss of eligibility. The eligibility language in this case is ambiguous. Employers should examine their eligibility language (preferably with legal counsel), arrive at a reasonable interpretation, and obtain written agreement with its interpretation from its insurance carriers—both the insurers of insured benefits and the stop loss carriers for self-insured benefits.
Even more problematic are eligibility provisions that reference or incorporate the IRS definition of “full-time employee” found in the employer shared responsibility excise tax (aka “pay-or-play penalty”) regulations issued under I.R.C. Section 4980H. This type of eligibility language is, unfortunately, rather common among the documents provided by independent third-party administrators of self-insured medical benefits. The look-back measurement method found in those regulations can apply to salaried and hourly employees, and the period over which the average is measured can be upwards of 12 months. To make things more complicated, an employee who has earned a stability period has essentially earned a vested right to medical benefits, and a reduction of hours will not change that person's eligibility. 26 C.F.R. § 54.4980H-3(d). Without a loss of eligibility, COBRA will not be triggered.
Another consideration is the effect of any actively-at-work provisions that might be in the insurance policies of insured benefits, common with life insurance and disability insurance policies. This author has observed that in light of the public health crises presented by coronavirus, carriers are announcing a relaxation or outright waiver of actively-at-work provisions. However, as the financial impact of a pandemic takes its toll and investments lose a large portion of their value, insurance companies will have a strong incentive to strictly apply—or worse, stretch the application of—actively-at-work clauses, resulting in a higher incidence of claims denials. Employers should examine their policies and obtain written assurances from carriers regarding its position on eligibility under the policy during a reduction-in-hours-style furlough.
Because the outcomes in a reduction-in-hours-style furlough are highly dependent on interpretations of potentially ambiguous language, if an employer desires a particular outcome, it may be able to amend its benefit plan or encourage a carrier to agree to a particular interpretation in order to achieve that outcome.
There are downside risks to consider. Similar to short-term layoff-style furloughs, if employees’ hours are reduced to the point where there is insufficient compensation to pay the employees’ portion of premiums, employers will have to devise a mechanism for collecting the difference.
Unlike short-term layoffs, though, employees whose hours are reduced are still employees, and they may be eligible for other workplace fringe benefits like qualified transportation benefits or job/benefits protections like the Family Medical Leave Act.
Reduction-in-hours-style furloughs also present complications because the facts are less clear. When does the employee's authority to represent the employer end? Can employees whose hours are reduced still incur business or travel expenses of a type that the employer has, in the past, reimbursed? If an employee's hours are reduced to zero, but the employee is not terminated, can the employee request back pay if his/her over-eager manager requests that the subordinate employee answer a few emails? (The answer is state-law dependent, but generally the answer is yes.)
Does the answer change if the employee volunteers to do a little work while on furlough? It may not be reasonable to answer all these questions, but the employer's human resources team should at least begin the thought experiment.
If it is determined that the employer's desired furlough is a reduction in hours to zero—as opposed to a layoff, meaning there will be no termination of employment—the employer will then need to consider whether and to what extent the furlough period will constitute a leave of absence under existing fringe benefit policies. If the company characterizes the furlough period as a company-imposed leave of absence, the effect of not being actively at work may result in a different treatment under applicable insurance policies (e.g., stop loss, life, disability).
If characterizing the furlough period as a leave of absence helps achieve the desired result of the employer, it will be of crucial importance that the employer document this type of leave so that it will more likely be considered “established policy” of the employer under applicable insurance policies.
In addition, the effect of a reduction-in-hours-style furlough must be examined under the employer's other leave policies including paid time off, vacation, sick leave, etc. Depending on the other leave policies, an employee may be able to elect PTO or vacation leave in lieu of furlough. Employers’ human resources teams should be mindful of ensuring that employees accrue benefits, vesting, and participation service in accordance with such policies.
For employers with fewer than 500 employees, the recently-passed Families First Coronavirus Response Act could have significant influence on the decision to implement a reduction-in-hours-style furlough versus a temporary layoff-style furlough. The legislation requires employers with fewer than 500 employees to provide upwards of 10 weeks of paid family leave under certain circumstances and up to 2 weeks of paid sick leave for reasons related to the coronavirus.
Employees who are furloughed via a reduction in hours are still employed and thus are eligible for FFCRA-mandated paid leave. Employees who are furloughed via temporary layoff, on the other hand, will not be eligible for FFCRA-mandated paid leave (unless the employer is found to have terminated or otherwise discriminated against the employee for seeking FFCRA-mandated paid leave). The FFCRA provides for a refundable payroll tax credit to cover the cost of its paid leave mandates, but the fact that the paid leave must be provided first and then reimbursed in a future payroll tax filing presents very real cash flow concerns.
Coronavirus is, among other things, a wakeup call for employers to consider how to handle employees’ health and welfare benefits in times of crisis, and it provides the rather unfortunate impetus to update benefit plans and leave policies accordingly.