Practice Area
briefings
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The Lurking Risks of Employee Benefits
By David Guadagnoli and Amy Sheridan1
Employers today offer a robust menu
of employee benefits, many subsidized heavily under federal and state
tax laws. But these subsidies often
come with many strings attached.
Only when armed with sufficient
knowledge of some pretty complex
rules can an organization be assured
that there is no lurking risk (
sometimes substantial) from one or more
of its benefits arrangements.
The issues discussed below are
among the most common (and
often overlooked) problems that we
see employers bumping into time
and again. Many employers believe
that their third-party administrators or auditors are on top of and
will catch these issues, but that is
not always the case. And when
something slips through, it is the
employer who will often be left
holding the bag.
Just who is the employer? Many
benefits provisions in the US In-
ternal Revenue Code provide that
businesses that are somewhat simi-
larly owned be treated as a single
employer. These provisions are
designed to prevent employers from
“gaming” the system by putting
higher paid employees in one entity
(with generous benefits) and lower
paid employees (with less generous
benefits) in another. In practice,
however, these rules can cause ag-
gregation in ownership structures
not thought to be abusive, such as
somewhat similar ownership of
very different businesses.
The three primary techniques
used to aggregate businesses are:
(1) parent-subsidiary relationship
(one entity owns at least 80 percent
of another); ( 2) brother-sister
relationship, where five or fewer
individuals, trust or estates have a
“controlling interest” (at least 80
percent) in two or more entities and
together have “effective control”
(combined identical ownership of
more than 50 percent) in the enti-
ties; and ( 3) affiliated service group
relationships where (in its most
basic form) there is an ownership
relationship between one entity
and another, and one of the entities
provides services to the other, or
together, they provide services to
third parties. Within those basic
descriptions lie a complex web of
special rules and exceptions that
can make identifying the employer
quite a challenge. For example,
organizational form (LLC, corpora-
tion, partnership, sole proprietor-
ship) is generally irrelevant when
applying these concepts. Ownership
can also be attributed through an
entity and actual ownership can
even be disregarded entirely in
certain situations.
Service providers probably best
understand employer aggregation
in the retirement plan area, but even
there, it is often assumed (wrongly)
that the original ownership facts
never change. Less understood and
appreciated is that these rules also
apply in the welfare benefits context,
including group health plan nondiscrimination rules (discussed below)
and “pay or play” mandates under
the Affordable Care Act (ACA), and
