As the cost of health insurance continues to increase, some employers are growing concerned that the burden of employee out-of-pocket contributions is falling too heavily on lower-paid workers. As a result, more employers are considering plan premium tiers that base employees' contributions for health coverage on their pay level. Higher-paid employees are then, in effect, subsidizing coverage for their lower-paid co-workers.
This approach is not widespread, but a significant portion of employers use it, according to HR consultancy Aon Hewitt. The firm's health benefits data covering 1,600 employers found that 21 percent set health insurance premium amounts based on employee pay levels.
Some employers may simply feel, for fairness' sake, that those earning more should pay more of the cost of health care. Others may introduce pay-based contributions for strategic reasons. Or both considerations may come into play.
One company with multiple lines of business introduced pay-based premiums to mitigate the differences in pay between lower-level staff and a large number of highly paid employees in sales, the executive ranks and the firm's high-technology business unit, said David Fortosis, senior vice president with Aon Hewitt in Lincolnshire, Ill.
"Employers have changed plans to increase co-insurance and co-pays and increased employee contributions so much that they feel that they can't do much more on that side," said Christopher Calvert, senior vice president and health practice leader for Segal Consulting, an HR advisory firm in New York City. "They are also growing concerned about meeting the affordability requirements under the Affordable Care Act. As a result, this approach is gaining some traction."
In 2018, employer-sponsored coverage will be considered affordable if, for the least expensive plan option, an employee's required contribution for self-only coverage does not exceed 9.56 percent of the employee's W-2 income.
Choosing a Pay-Based Structure
Although employers could tie contributions to a flat percentage of each employee's pay, setting up a few premium payment tiers linked to specified pay ranges is another approach. Under a three-tier structure, for example:
- Employees earning up to $50,000 per year might contribute 3 percent of pay,
- Those earning between $50,001 to $100,000 might contribute 5 percent of pay.
- Better-compensated employees earning more than $100,000 might contribute 7 percent of pay.
Employers that prefer to set a flat rate for employee contributions could replace percentages in each tier with contributions of a specific dollar amount.
The ease of introducing these pay-based contributions depends on how adaptable the payroll system is. "If this approach requires a lot of manual fixes to accommodate the different contributions, then chances of introducing errors into the system increase," Fortosis said.
"The challenge is in the details," Calvert agreed. For example, when an employee gets a promotion and a raise that moves the individual into a higher contribution tier, he or she may have a negative reaction if the higher contribution for health benefits lessens the financial benefit of the salary increase. Employers may need to consider this when setting the amount of pay raises and may need to determine whether to phase employees into a higher tier over time rather than all at once.
[SHRM members-only Q&A: Are employers allowed to offer different benefits to different employees and to charge more for the same benefit, or is this a discriminatory practice?]
Variable Pay Challenges
Implementing a tiered premium structure can be a challenge for employers with many employees who earn variable or hourly pay. In these cases, employers may not know how much a specific employee will make in a given year and, therefore, cannot set contribution amounts for those workers.
However, employers can use current base pay or, for hourly workers, their regular rate of pay—or use an employee's previous year's pay—to set the tiers and calculate contributions.
Communicating the Change
When putting a new contribution structure in place, explain the reasons behind the change, such as the organization's commitment to providing affordable health care to all employees.
Be prepared to respond to better-paid employees who are unhappy because their monthly premiums will be higher. Note, for instance, those benefits that are richer for top earners. If 401(k) match contributions and annual bonuses are based on a percentage of pay—or bonuses are awarded at a higher percentage of pay as incomes rise—or if there are deferred compensation programs and supplemental retirement benefits only for highly compensated employees, this is a good time to point that out.
Complying with Nondiscrimination Rules
Employers should be aware that there are different nondiscrimination requirements to consider when charging employees different premiums, advised Danielle Capilla, senior vice president for compliance and operations at United Benefit Advisors, in a recent blog post.
"Generally, under HIPAA nondiscrimination rules, employers have discretion when structuring their benefits plans and may make distinctions among employee populations regarding access to and the level of benefits offered," as long as these differences are based on "bona fide employment-based classifications," she noted.
Employers also should review nondiscrimination requirements under Internal Revenue Code Section 125 (for cafeteria plans) and Section 105(h) (for self-funded plans), which say, for instance, that benefit plans cannot discriminate in favor of highly compensated individuals or key employees.
That shouldn't be an issue if the premium tiers are designed to help lower-paid employees, but "as a best practice, any time an employer has a plan design with different levels of employer contributions, the employer should run the applicable testing to ensure its plan is compliant," Capilla noted.
A Long-Term Choice
If employers are going to adopt a pay-based health insurance premium structure, they must be sure it is the right choice for the long term. Should an employer switch back to a system with all plan enrollees making the same contribution to health coverage, no matter what their pay level, then lower-paid employees would experience a large and sudden increase in their premium contributions.
Employers could try to mitigate the financial stress of switching back to equal contributions by raising the rate for lower-paid employees over a period of years.
Still, before shifting to a pay-based premium structure, it's best for an employer to be certain of why it's doing so. "This is a fairly long-term commitment," Calvert said. "This is not something that can be changed easily."
Wage-Based Cost-Sharing More Common at Large Employers
A substantial share of the largest U.S. employers are designing their benefits to assist lower-income employees by implementing wage-based cost-sharing arrangements, according to the Washington, D.C.-based National Business Group on Health (NBGH), which represents corporate health plan sponsors.
NBGH's Large Employers' 2018 Health Care Strategy and Plan Design Survey found that 34 percent of large employers operating in the U.S. have in place wage-based premium contributions for their health plans. While only 3 percent of employers have wage-based deductibles, 8 percent do so for out-of-pocket maximums.
For those employers offering plans with health accounts, some even have wage-based health account contributions (7 percent).
The prevalence of any of these types of arrangements varies by industry, NBGH found. For example, 53 percent of large banking/financial services companies have wage-based premiums in place.
The survey was fielded between May 22 and June 26, 2017, and reflects the health offerings of 148 U.S. employers, two-thirds of which belong to the Fortune 500 or the Global Fortune 500, and nearly one-third of which belong to the Fortune 100.
Joanne Sammer is a New Jersey-based business and financial writer.
Related SHRM Article:
Earn Less, Pay Less: Salary-Based Premiums, HR Magazine, March 2012
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