Five Employee Benefit Trends Taking Shape in 2022

We are seeing employers attempt to overcome these challenges by offering nontraditional benefits and increasing employee ownership opportunities.

Here are five employee benefits trends we are seeing and related considerations.

1. Voluntary Benefits

Employers increasingly are adding voluntary benefits to their benefits programs. Examples include cancer, critical illness, hospital indemnity and accident insurances, supplemental life and disability insurances, pet insurance, financial planning and identity theft protection.

An employer needs to consider whether ERISA (the Employee Retirement Income Security Act of 1974, as amended) will apply to a voluntary benefit being offered. ERISA generally applies if a benefit is (i) enumerated under ERISA and (ii) "a plan, fund or program" "established or maintained" by the employer. Enumerated welfare-type benefits include, "through the purchase of insurance or otherwise, (i) medical, surgical, or hospital care or benefits, or benefits in the event of sickness, accident, disability, death or unemployment, or vacation benefits, apprenticeship or other training programs, or day care centers, scholarship funds, or prepaid legal services, or (ii) any benefit described in §302(c) of the Labor Management Relations Act of 1947 (other than pensions on retirement or death, and insurance to provide such pensions).

If, however, the benefit meets the voluntary plan "safe harbor" under 29 C.F.R. §2510.3-1(j), when adopted and while maintained, it would not be subject to ERISA.

Many think a "voluntary plan" is simply insurance coverage where participation is voluntary and employees pay the entire premium. However, voluntary arrangements may not satisfy the safe harbor requirements, which include:

• the plan is completely voluntary,

• there are no employer contributions,

• the employer's involvement is limited,

• the employer performs only permitted ancillary functions, and

• the employer receives no consideration from the insurer.

Moreover, to avoid creating an ERISA plan, the employer should not endorse the plan. Evidence of endorsement includes, but is not limited to: selecting insurers; negotiating plan terms or design; linking coverage to employee status; using employer's name or associating the employer with the plan or its administration other than payroll deductions; distributing information that associates the voluntary plan with employer's ERISA benefits; stating ERISA applies; paying premiums through employer's cafeteria plan; and assisting employees with claims.

An employer should examine voluntary benefit documents to determine what functions it is expected to perform. It may help to include a disclaimer and have a standalone enrollment.

2. Non-Traditional and Innovative Benefits

Non-traditional and innovative benefits that are sensitive to employees' desires, needs, interests and diversity is another strategy that employers are utilizing. These benefits include educational assistance, prepaid legal services and family planning (fertility, surrogacy, adoption, etc.). We are also seeing growth in wellness-type benefits such as gym memberships, virtual health care access, yoga and other workout classes, employer support of charitable fitness events (charity bike rides and runs) and providing access to a recreational area. Benefits that enhance the work experience, such as technology stipends, cell phone allowances and purchase of home office equipment are commonly being offered.

When considering what benefits to offer, employers need to be savvy of whether these benefits are treated as taxable compensation to the employee and deductible by the employer. For example, there are specific requirements under Internal Revenue Code of 1986, as amended (the "Code") for educational and adoption assistance to be nontaxable. Exceptions, such as the de minimis fringe benefit exception, may apply to other types of benefits such as fertility benefits and the non-business use of employer-provided cell phones.

When considering these benefits, consultation with legal counsel is imperative to ensure programs are designed and documented appropriately to achieve the desired tax outcome.

3. Self-Directed IRA Investment in the IRA Owner's Employer

Increasingly, closely held employers offer certain employees the opportunity to purchase ownership in the employer. Recent press about multimillion- and even billion-dollar individual retirement accounts ("IRAs") has increased some individuals' interest in investing their self-directed IRA assets in their employers' equity in hope of hitting it big. While the Internal Revenue Service (the "IRS") has expressed some interest in these behemoth-sized IRAs, there are practical considerations for anyone considering investing their IRA assets in employer equity.

Code §4975 prohibits certain transactions between IRAs and "disqualified persons" (referred to as prohibited transactions). The self-directed IRA owner, as the fiduciary of that IRA, is a disqualified person. The prohibition covers a wide variety of transactions, subject to specified exemptions, but the impetus for the prohibition is to make illegal transactions that have a high potential for abuse. If a non-exempt prohibited transaction occurs, excise taxes are imposed on the disqualified person (generally based on the value of the assets involved), the transaction may have to be unwound, and the IRA could lose its status as an IRA (meaning that the assets would be currently taxable). Whether a prohibited transaction occurs, often but not always, involves the consideration of the applicable facts and circumstances of the transaction and, consistent with the protective nature of the prohibition, the burden of proof is on the disqualified person to prove either that a prohibited transaction did not occur or that an exemption applies.

Transactions that involve self-dealing are among the types of transactions that are covered by the prohibited transaction rules. Self-dealing involves a transaction that benefits the disqualified person, aside from any benefit to the IRA from the transaction. Thus, the investment of IRA assets in the equity of the IRA owner's employer raises the question of whether that investment involves self-dealing and, thus, constitutes a prohibited transaction. Examples of situations in which a prohibited transaction might occur in relation to investing IRA assets in an employer include where the IRA owner is the owner of a failing business in which the IRA assets are being invested or to protect or secure assets of the IRA owner already invested in the business or where the investment of the IRA assets in the IRA owner's employer may influence or secure the IRA owner's continued employment by that employer.

The prohibited transaction rules and the related exemptions are extremely complex, and IRA owners and employers considering accepting IRA assets for the purchase of equity should consult with their tax and legal advisors regarding the prohibited transaction rules with regard to such transactions.

4. Profits Interest Grants to Employees

Some partnerships want to allow employees to acquire ownership without the employee having to make a cash purchase of the ownership interest. One way this is achieved is through a profits interest grant.

Generally, profits interests are classes of equity in partnerships and entities taxed as partnerships that provide an interest in the future appreciation of the related entity. If the safe harbor rules in IRS Revenue Procedure 93-27 and 2001-43 are satisfied, profits interest grants are not taxable to the recipients. One safe harbor requirement is that the recipient of profits interests must be treated as a partner at the time the profits interests are received, even if the profits interests are not fully vested at grant. While profits interests can be beneficial to employee-recipients because they do not result in current compensation, may result in capital gain treatment when sold, provide potential upside where the issuing company increases in value, and presently are exempt from the Code §409A requirements, changing an employee to a partner has significant consequences that should be considered.

An individual cannot be both an employee and a partner of the issuing entity, meaning that an individual should not receive both a Form W-2 and a Form K-1 from the same entity for a calendar year, unless the individual's status as an employee changed during the calendar year. As an employee, one-half of certain payroll taxes (for example, Federal Insurance Contributions Act (FICA) taxes) are paid by the employer. Partners, on the other hand, pay self-employment taxes, meaning that, after an employee receives profits interests, the employee has to pay both halves of those payroll taxes. Also, as a partner, the individual may be required to file income tax returns in all jurisdictions in which the issuing entity does business, something that would likely add significant complexity to the recipient's current tax return filing obligations.

Lastly, treatment as a partner may affect the ability of the individual to participate in certain types of employee benefit plans sponsored by the issuing entity depending on the structure and terms of those plans.

As illustrated above, granting profits interests to an employee, while potentially beneficial, may have significant financial and other consequences to the employee and should not be done without adequate consideration.

5. Ongoing and Increasing Challenges

The U.S. Bureau of Labor Statistics estimates that nationwide, benefits comprise about 30% of employer costs for employee compensation in December 2021. We expect this percentage will continue to grow along with the importance of benefits as a retention and hiring tool.

This growth puts pressure on legislators to enact laws and rules governing benefits. We expect to see increased regulation of benefit plans, imposing more obligations on employers. Employers should affirmatively act to ensure benefits are compliant with current and ongoing changes in law, documented properly and completely, and reflect best recommended practices.

Given the foregoing, lawsuits involving benefit plans are more enticing. Class action lawsuits claiming 401(k) plans charge excessive fees have become a millions-of-dollars cottage industry for some plaintiffs' litigation firms. The recent U.S. Supreme Court decision in Hughes v. Northwestern University, certainly will encourage more of these lawsuits. A similar trend is evolving regarding COBRA notices. These trends won't die anytime soon and expect other lawsuit trends to emerge. Employers should act proactively to protect themselves and their benefits plans against these types of lawsuits.

All-sized employers should engage well-qualified benefits advisors and legal counsel to assist. These upfront costs often outweigh the costs of corrections and penalties and help to prevent litigation.

This article was co-authored by David Spaulding, Shareholder, Brownstein Hyatt Farber Schreck