New Jersey Legislation On Biologically-Based Mental Illness Benefits
New Changes to IRS Voluntary Compliance Programs
Employers that sponsor qualified retirement plans will want to take note of some upcoming changes at the Internal Revenue Service ("IRS"). As you may know, the IRS has begun a top-to-bottom restructuring from its current geographic-based structure into four distinct business divisions. On December 5, 1999, as part of restructuring, the IRS centralized its qualified retirement plans functions into the Tax Exempt and Government Entities (TE/GE) Division located at IRS headquarters in Washington, D.C. Until now, some of the IRS's more popular voluntary compliance programs have been administered from local IRS offices, known as Key District Offices, with input from IRS headquarters. While the local changes from restructuring are not expected to be in place until February or March of 2000, it is prudent for plan sponsors to be aware of the upcoming changes when planning for the future.
The IRS enforces compliance with the retirement provisions of the Internal Revenue Code of 1986, as amended (the "Code") for private and public sector retirement plans. The IRS determines whether a retirement plan is "qualified" under a system of qualification requirements that were added to the Internal Revenue Code by the Employee Retirement Income Security Act of 1974 ("ERISA"). These qualification requirements have been amended many times, making the administration of qualified retirement plans increasingly complex.
In recent years, a number of voluntary compliance programs have been developed by the IRS to enable plan sponsors to self-correct plan defects or to submit the plan to one of the IRS's voluntary compliance programs. The voluntary compliance programs have become popular with plan fiduciaries who want to ensure that their plans are operating in compliance with the qualification requirements.
The current restructuring at the IRS is intended to have a minimal effect on plan sponsors' access to the voluntary compliance programs. Just how minimal the effect will be remains to be seen.
Employee plans located in New Jersey are currently under the jurisdiction of the IRS's Northeast Key District Office in Brooklyn. Beginning in February or March of 2000, jurisdiction shifts to Philadelphia, which will become the IRS's Employee Plans Area Management Office for the Mid-Atlantic Region. Officials at the IRS have issued assurances to the effect that any voluntary compliance submission currently with the Northeast Key District Office shall continue to be processed in that office even after the restructuring has been implemented. There should be no disruption in case processing.
One voluntary compliance program that has become popular with plan sponsors around the country and particularly in the Northeast Region is called the Walk-In Closing Agreement Program, or Walk-In CAP. A plan sponsor who conducts an audit of its retirement plan and discovers qualification defects can "walk-in" to the IRS with a proposed plan of correction. IRS offices around the country have been working with plan sponsors through Walk-In CAP to determine whether their proposed plans of correction are acceptable. A negotiated sanction fee is required to be paid. The negotiated fee often kept plan sponsors away from Walk-In CAP. In response, the IRS changed the Walk-In CAP fee structure in 1998 by placing a ceiling on the maximum amount that could be charged and providing a sliding scale that increased with the size of the plan. Walk-In CAP has been administered locally at IRS Key District Offices with input from IRS headquarters. This will change with restructuring. Although the substance of the Walk-In CAP program is not intended to change, administration will be centralized at IRS headquarters. Walk-In CAP submissions will no longer be sent to the local Key District Office. A select number of IRS agents from around the country will continue to process future Walk-In CAP submissions. Administrative decisions will be made at IRS headquarters. Whether IRS agents will retain the level of autonomy they now enjoy remains to be seen.
The IRS does not anticipate changes to the administration of the VCR Program at this time. While correction under VCR can be more strict than under Walk-In CAP, the fee for VCR is generally lower than the negotiated sanction fee in Walk-In CAP. The IRS has hinted that the processing of VCR applications will eventually be farmed out to IRS agents around the country. As with the changes to the Walk-In CAP Program, only time will tell how restructuring will affect the processing of VCR applications.
According to the IRS, plan sponsors should feel confident that their voluntary compliance submissions currently at local IRS offices will continue to be processed where they are even after the IRS restructuring takes effect. Restructuring is not intended to change the substance of the voluntary compliance programs.
New Jersey Legislation On Biologically-Based Mental Illness Benefits
New Jersey recently enacted legislation intended to ensure that health benefits for biologically based mental illness are provided on an equal basis to benefits for physical illness. The new law became effective in August of 1999.
The law purports to apply to all health insurance arrangements, including individual and group health insurance policies, individual health benefit plans, small employer health benefit plans and HMOs that are delivered, issued, executed or renewed in New Jersey. The law requires that coverage under the arrangements be provided for biologically based mental illness under the contract under the same terms and conditions as provided for any other sickness under the contract. The term "biologically-based mental illness" is defined as a mental or nervous condition that is caused by a biological disorder of the brain and results in a clinically significant or psychological syndrome or pattern that substantially limits the functioning of the person with the illness. The law includes the following illnesses as examples of biologically-based mental disorders that are covered: schizophrenia, major depressive disorder, obsessive-compulsive disorder, bipolar disorder, paranoia and psychotic disorders, and autism.
The legislation contains a notice provision, requiring New Jersey employers which provide health benefits to employees to notify employees once each year whether coverage for treatment of biologically-based mental illness is subject to the law. This notice must also be provided to employees upon request.
The law does not directly address the issue of self-insured benefit plans that are subject to ERISA. ERISA generally preempts State laws insofar as they relate to any employee benefit plan. Although the so-called "savings clause" of ERISA reserves to the states the power to enforce state laws that regulate insurance, the "deemer clause" limits the scope of this exception so that self insured plans will not be subject to state regulation. The United States Supreme Court has held that the deemer clause exempts self-insured ERISA plans from state laws that regulate insurance within the meaning of the "savings clause." Further, the legislative history of ERISA makes it clear that Congress intended to create uniform national standards for benefit plan administration, specifically referring to ERISA's reporting and disclosure requirements. Accordingly, it is likely that the new law's notice provisions as applied to self-insured group health plans should be preempted by ERISA.
Interestingly, this is the second time in as many years that New Jersey has passed a benefits notice law that purports to apply to self-insured plans. In 1998, the New Jersey Health Care Quality Act was passed. The Health Care Quality Act generally entitles patients under insured health benefit plans to written, up-to-date information about coverage, policy changes and appeal rights, provides protection to physicians from being dismissed from an insurance plan for advocating better care for patients; requires physicians to make decisions limiting care; eliminates "gag rules" that prevent physicians from informing patients about costly treatment options; and prohibits insurers from giving physicians bonuses to withhold necessary treatment. In addition, the law provides that employers that provide comprehensive self-insured health benefits plans to employees to annually, or upon request of an employee at other times during the year, notify employees that they are covered by a self-insured plan that is not subject to regulation by the State of New Jersey, and specify which mandated health insurance benefits, established by statute, are not covered by the self-insured plan.
Reportedly, however, some employers that sponsor self-insured plans have declined to follow the requirements of the Health Care Quality Act's provisions, on the theory that it is preempted. To date, we are unaware of the State engaging in any litigation under the Health Care Quality Act. It is curious that the legislature has again declined to respect or follow ERISA's preemption clause.
We should note that on the issue of the requirement for health plans to provide mental health benefits on the same level as physical health benefits, Congress has not remained silent. In 1996, the Mental Health Parity Act was passed. The Mental Health Parity Act amended ERISA to require that group health plans which provide medical and surgical benefits as well as mental health benefits may not impose a lower lifetime or annual limit on the mental health benefits than they impose on medical and surgical benefits. In addition, plans with no lifetime limit on medical and surgical benefits may not impose a lifetime or annual limit for mental health benefits.
The Mental Health Parity Act does not affirmatively require employers to offer mental health benefits, and does not apply to small employers. It also does not prohibit plans from containing provisions affecting the terms and conditions on which mental health benefits are offered. Thus, plans may continue to provide for cost sharing, limits on numbers of visits or days of coverage, and plan provisions requiring pre-certification, physician referral, and medical necessity for mental health benefits under the Mental Health Parity Act. In addition, the Mental Health Parity Act is scheduled to expire for services provided after September 30, 2001, but Congress could choose to extend its life.
In conclusion, the new law's requirement that benefits for biologically-based mental illness be provided on the same basis as physically-based illness will likely be viewed as applying only to insured health plans in New Jersey. It is unclear, however, whether New Jersey employers will feel compelled to comply with the notice requirements, which are not limited to insured plans. Moreover, it will be interesting to see how the State's litigation position unfolds in the future. Whatever its compliance enforcement position, however, it is clear that mental health benefits under health plans are receiving more attention from the public than was true in the past. It is unlikely that the New Jersey mental health legislation will be the last word on the subject.
New Jersey Supreme Court Holds IRA Assets That Were Fraudulently Conveyed To Defeat Creditor Are Not Protected
A recent case decided by the New Jersey Supreme Court may be of interest to qualified plan sponsors that find themselves in the unfortunate position of dealing with a former employee's embezzlement of corporate funds and the resulting attempt to recover the embezzled money from the embezzler's individual retirement account (IRA).
Facts
The employee was employed as a bookkeeper and embezzled over $700,000 from the company over four years. (Obviously, the employee was fired after her embezzlement was discovered, but for simplicity, we refer to her herein as the "employee.") The company was located in New York, and the employee was indicted in New York for second-degree larceny. She pled guilty to attempted second-degree larceny, and was sentenced to one year in prison.
The New York Litigation
The company filed a lawsuit against the employee in New York to recover the amount embezzled, plus the amount paid to her in salary and bonuses during the period she was stealing from the company. The New York court awarded a judgment in favor of the company of approximately $225,000 in partial damages. The remaining amount owed to the company was to be determined by a Special Master. In addition, the New York court entered an order of attachment placing a lien on all of the employee's property in New York.
During the next year or so, the employee and the company attempted to settle the matter. The employee claimed her only asset was her qualified profit sharing plan account with the company, valued at $84,000. Negotiations on a settlement soon broke down, and in November 1994, the employee demanded a complete distribution of her profit sharing plan account. The plan administrator complied with the request and processed a distribution, in accordance with its fiduciary duty under ERISA. The employee requested that the distribution be directly transferred to a rollover IRA account in a New Jersey bank.
Interestingly, if the employee had embezzled money directly from the profit sharing plan, a provision under ERISA would have enabled the company to deny the request. By way of background, ERISA generally provides that assets under a pension benefit plan (such as a profit sharing plan, defined benefit pension plan, or 401(k) plan) may not be assigned or alienated. The legislative intent of this provision is to enable employees with benefits in qualified plans to keep those benefits, regardless of their other debts or obligations, so that the assets are available for retirement. An exception to this rule exists for qualified domestic relations orders awarding all or a portion of a plan participant's account to a spouse, former spouse or other dependent for child support, alimony or a property settlement in divorce. An additional exception to the anti-alienation rule provides that it is permissible to offset a participant's benefits under a plan against an amount the participant is required to pay to the plan arising from a judgment or conviction for a crime involving the plan, or a civil judgment for breach of fiduciary duty to the plan. This exception, however, was not available to the company in this case because the employee embezzled money from the employer's assets, not the profit sharing plan.
The New Jersey Litigation
After the direct rollover transfer was made to the New Jersey IRA, the company filed suit in New Jersey to place a lien on the funds based on the New York judgment against the employee. The court complied by issuing an order of attachment against all of her New Jersey personal property. In 1995, the bank complied with the court order and forwarded the account balance to the company. The employee then filed suit contending that the IRA assets should have been immune from the attachment based on a New Jersey state law exempting IRA assets from the claims of the IRA depositor's creditors.
There is an exception to this rule, however, in the case of a fraudulent conveyance. In general, fraudulent conveyance refers to the transfer of property to defraud a creditor, to hinder collection of the property, or to put the property beyond the creditor's reach. The issue for the New Jersey Supreme Court to address was whether the transfer of the profit sharing plan assets to the New Jersey IRA constituted a fraudulent conveyance such that the IRA assets could be attached by the company.
The company contended that the transfer of her profit sharing account balance to a New Jersey IRA was done to attempt to place the money beyond the reach of the New York judgment against the employee. The company claimed that the fact that she was insolvent, the fact that she otherwise had no contacts in the state of New Jersey, and the fact that she was able to take withdrawals from the IRA, were further proof of her intent to defraud her creditors. The employee responded that the assets were protected under New Jersey law, and also would have had similar protection under New York law, therefore, the fact that she transferred the money to a New Jersey account should not be viewed as an attempt to place the money beyond the reach of her creditor.
The New Jersey statute defines fraudulent conveyance, in relevant part, as a transfer made or obligation incurred by a debtor if the debtor made the transfer or incurred the obligation with actual intent to hinder, delay, or defraud any creditor of the debtor. The court analyzed the facts to determine whether the transfer contained "badges of fraud" or facts, the presence of which, create an inference that there was intent to defraud a creditor. In general, courts in New Jersey have held that several actions constitute badges of fraud, such as a transfer occurring shortly before or after a substantial debt is incurred, or a debtor transferring all of his assets, or removing or concealing assets. The New Jersey Appellate Division had held in this case that the transfer was not fraudulent because two of the badges of fraud were not present. However, on appeal, the New Jersey Supreme Court found that reasoning to be erroneous, explaining that it was not necessary to have all of the badges of fraud that previous courts have enumerated. The badges of fraud do not prove automatically that there was a fraudulent conveyance, rather the presence of the badges of fraud give rise to an inference that intent to defraud was present.
The Supreme Court held that the employee had complete possession and control over the IRA in New Jersey, as well as several other facts that it viewed as badges of fraud. Thus, finding that the totality of the circumstances clearly and convincingly demonstrated that the employee intended to hinder, delay and defraud her creditor, the court held that the assets were fraudulently conveyed and were therefore not protected by the New Jersey statute.
Accordingly, in the unfortunate situation of employee embezzlement, employers that are trying to collect money in restitution from the employee or former employee should be aware that money in an IRA in New Jersey is not necessarily immune from attachment, even if it was transferred from a qualified plan, if the employer can demonstrate that the transfer was done with intent to defraud creditors.
IRS's Re-Calculation Of Cost Of Employer Provided Group Term Life Insurance Is Likely To Please Employees
As a result of revision of the actuarial tables to account for people living longer, on June 3, 1999, the Internal Revenue Service published final regulations revising the tables used to calculate the cost of employer provided group term life insurance that is includible in employees' gross income. Generally, under Section 79 of the Code, employees may exclude from gross income the cost of up to $50,000 of group term life insurance under their employer's group term life insurance plan. If, however, the employee has insurance provided under the employer's plan in excess of $50,000, to the extent that the cost of such excess insurance (calculated as explained below) exceeds the amount contributed by the employee, it is includible in the employee's gross income. The amount includible is referred to as "imputed income."
The amount of imputed income under the table is determined on the basis of uniform premiums computed on the monthly cost of providing $1,000 of insurance protection, broken down into five-year age brackets. Before the new regulation, there were ten age brackets. The first bracket was for ages under 30 and the last bracket was for ages 70 and above. The uniform premiums under the old regulation ranged from $.08 per $1,000 of insurance protection per month for under age 30 to $3.76 per $1,000 per month for ages 70 and above. The new regulation increases the number of brackets to eleven, breaking down the bracket for ages under 30 to two brackets: under age 25, and ages 25-29. In addition, the premium amounts have been lowered in all brackets, in some cases, significantly. For example, for ages 40-44, the premium amount used to be $.17 per $1,000 per month, and is now $.10 per $1,000 per month. For ages 70 and above, the premium is now $2.06 per $1,000 per month, instead of the old rate of $3.76 per $1,000 per month.
Although an employee charged with imputed income under Section 79 is not actually receiving cash compensation, imputed income is subject to FICA taxation and withholding. The new brackets and premium factors are effective July 1, 1999, however, employers have until the last pay period in 1999 to revise their systems to reflect the new table for calculating imputed income for FICA withholding purposes. Further, the regulation also provides for employers to be able to use the bracket for ages 25-29 for employees under age 30 for the balance of 1999, although the new premium amounts must be used. This transition rule was an accommodation to employers so that they would not have to modify computer systems to include the additional "under 25" age bracket until 2000.
In general, the new table should be a welcome change for employees, since the reduction of the premium amounts will lower the amount of their imputed income. However, the new rates in some cases may render some group term life insurance plans subject to Section 79 which were not subject to it under the prior table. In general, a group term life insurance plan under which premiums are paid by employees is subject to income inclusion under Section 79 if the life insurance is provided "directly or indirectly" by the employer. The insurance is considered directly or indirectly provided by the employer if the employer arranges for payment of the cost of the insurance and charges any employee less than the cost of such insurance under the table and any employee more than the table cost. The reduction in the table premium amounts may cause some previously exempt plans to be subject to Section 79. Accordingly, the regulation provides for a transition rule under which a group term life insurance policy that was not subject to Section 79 on June 30, 1999 will not be treated as carried directly or indirectly by the employer (and therefore is not treated as subject to Section 79 income inclusion) until January 1, 2003 and group life insurance plans can make the determination using either the old or the new table until that time.
This newsletter is written and edited by the Employee Benefits Department of Pitney, Hardin, Kipp & Szuch LLP .
Editor: David P. Doyle;
Contributors: Kathy A. Lawler, Michael J. Duane, Glenn E. Butash, Amanda Berlowe Jaffe and Marjorie F. Sheron.
This newsletter provides general information of interest to our clients and others, and should not be taken as legal advice for specific situations which depend on evaluation of precise factual circumstances