Module 3: Post-Employment Benefits

Introduction

Aside from severance and unemployment, there are rules in place to ensure that employment benefits can be maintained or transferred by people changing jobs in as smooth a manner as possible. This module will focus on transitioning of health insurance and retirement benefits, including Social Security and private retirement accounts.

Health Insurance Portability

       Unexpected job loss can be difficult to cope with financially, professionally, and personally.  When an employee loses her job, she also faces a loss of wages and employer-provided benefits. To ensure that workers and their families do not suddenly lose healthcare after losing a job, Congress has passed two important health care insurance protection laws: The Consolidated Omnibus Budget Reconciliation Act of 1986, usually referred to by its acronym, “COBRA,” and the Health Insurance Portability and Accountability Act, or “HIPAA.”

 Consolidated Omnibus Budget Reconciliation Act (COBRA) of 1986

             The Consolidated Omnibus Budget Reconciliation Act (COBRA) protects workers and their families from losing their health benefits under certain circumstances for a limited time if the worker suddenly becomes ineligible for coverage.[1]  COBRA coverage – which is intended to maintain the medical coverage formerly available under an employer’s plan  extends to covered employees, their spouses and dependent children.  COBRA protections apply when an employee is separated from his job or some other life events occur.  Qualifying events include voluntary resignation, involuntary termination for reasons other than gross misconduct, reduction in working hours, death or divorce.  The employee must have been enrolled her employer’s health plan to be eligible for COBRA protections following a qualifying event.  COBRA coverage must be activated within 60 days following the qualifying event, so workers must quickly decide whether to elect COBRA benefits within this time frame.[2]

Under COBRA, private employers with 20 or more employees and all state and local governments must temporarily extend continued coverage of group health plans to covered workers. The time for which COBRA healthcare coverage is available depends on the nature of the qualifying event.  When a covered employee has his working hours reduced or is terminated, COBRA benefits are available for a maximum of 18 months. For other qualifying events, such as death or divorce, COBRA beneficiaries receive 36 months of coverage.  COBRA coverage may be terminated if the employee does not pay premiums on time, the employer stops offering a group plan, or the qualified beneficiary becomes entitled to coverage under another health plan.

After a qualifying event, the employer no longer pays any share of the health insurance premiums it had contributed while employed.  So, although terminated employees and their families maintain their health insurance coverage under the employer’s plan, the employee must pay the premium, potentially plus little extra for administrative costs. People who cannot afford the price of COBRA coverage may be entitled to a tax credit that can offset premium payments by over 70%.  This Health Coverage Tax Credit may be claimed on an income tax return at the end of the year.  Some states have laws like COBRA that expand former workers’ rights to ongoing healthcare benefits, so workers should be aware of any additional entitlements afforded to employees in their areas.[3] 

Keep in mind that in some circumstances, workers who are eligible for COBRA benefits may have more affordable or generous coverage options available through Medicaid, the Health Insurance Marketplace, or other group health plans. So, people leaving jobs should investigate other possibilities for health coverage rather than assuming COBRA is the best way to go.

Health Insurance Portability and Accountability Act (HIPAA) of 1996

Like COBRA, an important purpose of the Health Insurance Portability and Accountability Act (usually called “HIPAA”) is to protect employees from losing their healthcare coverage when they change jobs.  HIPAA offers additional protection to workers enrolled in employee-sponsored group health plans.[4] Under HIPAA, workers who lose employer-sponsored healthcare coverage may have the opportunity to enroll in new healthcare plans before the next open season for enrollment. 

Under HIPAA, a person who previously declined health coverage for himself and/or his dependents but then undergoes a change, that change may trigger a “special enrollment opportunity” in his current employer’s group health plan. Special enrollment opportunities are triggered by any of the following:

-       A loss of eligibility for health coverage under a health insurance plan. For example, if a worker is covered by his spouse’s plan, and his spouse’s employer then stops coverage or stops contributing to the premiums, this would trigger a special enrollment opportunity.

-       Gaining a new dependent through marriage, birth of a child, etc.

-       Losing eligibility for government provided health coverage, such as Medicaid, Children’s Health Insurance Program or similar program.

When a special enrollment opportunity is triggered, the employee’s current employer must offer him the opportunity to join in coverage currently offered by the employer even if the employee previously declined that coverage. From the triggering event, the employee has 30 days to make the decision as to whether to enroll.[5] If the employee accepts coverage, it must be made available as of the first day of the month following the election.

HIPAA also limits insurance exclusions for preexisting conditions and prohibits discrimination against employees based on their health.[6] Moreover, HIPAA’s nondiscrimination provisions prevent a person from being charged more for coverage than a similarly situated person covered under the same plan based on health status. “Health status” includes medical conditions, prior receipt of healthcare, medical history, genetic information and disability.

HIPAA also protects workers’ private health-related information from disclosure except with consent or under other limited circumstances.

Retirement Benefits

 Workers typically retire after participating in the workforce for their employable life. To ensure that retirees receive benefits and payments sufficient for them to support themselves, the United States and many other developed nations have laws in place regulating retirement payments.  Nearly all elderly Americans are eligible for Social Security, a government retirement program that is funded by payroll taxes.  Employment-based retirement benefits, on the other hand, are voluntary benefits and are commonly offered as part of worker compensation packages. 

 Social Security

Nearly all American workers qualify for Social Security benefits when they retire.  People who have worked in at least 40 quarters become eligible for full retirement benefits at age 67, but employees who retire early can receive social security benefits as early as age 62. Workers age 65 and older become qualified for healthcare coverage through Medicare, a benefit related to Social Security, even if they do not retire.  After retiring, workers are entitled to a monthly payment based on how much they paid into the system during their careers.  So, the more a worker pays into the Social Security system, the more he or she is entitled to upon retirement.  Social Security benefits are typically about 40% of a retiree’s pre-retirement income, so workers who wish to retire at a more comfortable income level may wish to look for ways to supplement these payments.[7]

The Social Security System is being underfunded due to a change in worker demographics.  Workers and employers each contribute 6.2 percent of the worker’s pay (for a total of 12.4 percent) to Social Security’s national pension plan.  Because retirees draw from a pool of resources funded by current workers, the system depends upon a certain ratio of employed workers to retirees.  In 2014, Social Security was underfunded by $34 billion, putting the program on track for bankruptcy in 2035.[8]  While Social Security benefits are currently available to nearly every American retiree, the future of the program remains uncertain.  As a result, private retirement plans are becoming increasingly common.

Private Retirement Plans

About 60% of American workers participate in retirement plans at work.[9]   

Employers or employee organizations can establish and maintain private retirement accounts that provide income for workers at the end of their careers.  These funds can be organized as traditional pensions, individual accounts or group funds that both employees and employers contribute to. State and federal agencies monitor these private retirement plans to ensure that they are being managed appropriately.

The Employee Retirement Income Security Act empowers the Department of Labor to administer and enforce federal protections over employee benefits.  The ERISA sets minimum standards for voluntarily-established, private pension and health plans necessary to protect people enrolled in these plans. The law requires retirement plans to provide members with information about the key features and funding sources of the plan, creates fiduciary duties for retirement plan managers and gives plan participants the right to sue on this basis. It also requires the establishment of grievance and appeals processes for participants seeking to derive plan benefits.  These measures all protect the individual participants from possible mismanagement of funds committed to employee retirement or healthcare. 

However, ERISA does not typically cover group health plans maintained by government entities, churches, organizations outside of the United States, or those maintained solely to comply with workers compensation, unemployment or disability laws.  COBRA and HIPAA both amended the ERISA to require the continuation of healthcare under circumstances where a worker’s coverage under an employer-sponsored group health insurance plan was discontinued.[10] 

ERISA covers two distinct types of pension plans: defined benefit plans and defined contribution plans.  Defined benefit plans guarantee a specific amount per month upon a contributing employee’s retirement.  Commonly, defined benefit plans apply a formula considering factors such as salary and years of employment to determine a retiree’s monthly payments.  For example, an employee may be entitled to 2% of his or her average monthly salary for every 7 years she was employed at the company.  Many pensions negotiated by labor unions though collective bargaining are organized as defined benefit plans, as these types of plans put responsibility upon the employers to fund and administer the program.  Defined benefit plans also more commonly pay retirees through an annuity while defined contribution plans, such as 401(k) accounts, typically entitle to the worker to unlimited access to the account. 

Under a defined contribution plan, the employee, employer, or both contribute to an employee’s account, and the employee may draw upon the balance of the account after he retires.  The employee’s account typically gains value through the management and investment of financial professionals. Profit-sharing plans, employee stock ownership programs, 401(k) plans, and 403(b) plans are all examples of defined contribution plans.[11]  A 401(k) plan is a defined contribution plan under which employees can voluntarily defer receiving a portion of her salary so that her employer may contribute it to an investment account. Employers often match these contributions up to a maximum percentage to encourage retirement savings.  Employers must advise workers enrolled in 401(k) plans about the several regulations and limitations that apply to these types of investments.

Another type of defined contribution retirement plan is known as the Simplified Employee Pension (or, “SEP” IRA). Employers may make contributions with favorable tax implications to employee-owned individual retirement accounts.  Unlike the 401(k), the employee sets up the SEP.  Alternatively, employers may set up SIMPLE IRAs, which allow businesses to contribute portions of worker’s salaries to the retirement plan in a fashion similar to the 401(k).[12] 

Overall, there has been a substantial decrease in employer-funded defined benefit plan enrollment and an overall shift towards defined contribution plans. The main reason is that employers do want to be responsible to ensure the funding of the plan and the growth of its assets. In the case of defined benefit plans, the employer is on the hook if investments in the pension accounts go bad because they are required to provide predetermined benefits for the employees upon retirement.

 Because defined contribution plans place more financial responsibility on the retiree, workers may want to be involved in the management of their retirement accounts, and if so, should be aware of the options available to them. 

Transferability

Contribution-based retirement plans are easily transferred.  Because the employees own their own retirement accounts, they can easily transfer their accounts in the event that they separate from their employers. However, they typically may not simply withdraw their account balances, as doing such would trigger severe adverse tax consequences. For example, in the case of a traditional IRA, 401(k) or SEP IRA, withdrawing assets before age 59 ½ subjects those assets to income tax and a 10% penalty for early withdrawal.

Fortunately, employees leaving positions who have 401(k) accounts have the choice of:

-       Leaving the account as is with the former employer. While the former employer will naturally no longer make contributions to the account, it can still grow and the employee does not lose access to it.

-       Cashing out. Withdrawing the money is not usually a good idea because of the tax and penalty consequences.

-       Rolling it over into an 401(k) plan with the new employer. If the new employer offers a 401(k) plan that the employee is satisfied with, this would generally be an excellent option, especially because the new employer would make its contributions to this existing account.

-       Rolling it over into an IRA account, which is then treated as a traditional IRA. This option may slightly decrease flexibility in limited circumstances, but is often the best strategy when the new employer does not offer a 401(k) plan that the employee intends to participate in.

 In contrast, defined benefit retirement plans are not as easily transferred, since these types of retirement benefits are drawn from a single account that covers an entire workforce.  Often, when workers leave jobs with defined benefit retirement plans, the portion of the retirement fund to which they are entitled is transferred into an IRA in the employee’s name.

Conclusion

          While job transitioning can be stressful and difficult, rules such as COBRA, HIPAA and rollover IRA allowances are important mechanisms by which the law seeks to allow people transitioning jobs to maintain their health care and retirement benefits to the extent practical.