What To Do If You Receive an MLR Rebate

The Affordable Care Act (ACA) requires health insurance carriers to spend a set percentage of the premiums they collect on medical care and health care quality improvement, rather than administrative costs or profits. This is known as the Medical Loss Ratio (MLR) rule. When too much of the premiums collected in a previous year have gone toward administrative costs or profits, carriers must send MLR rebates to employers to compensate.

If you’re a private-sector employer sponsoring a fully insured medical plan, understanding what to do when your carrier returns a MLR rebate is essential for maintaining compliance and properly distributing the funds.

In this article, we will explain the MLR rule and how to handle MLR rebates. We’ll also explain best practices for employers sponsoring plans that are exempt from the Employee Retirement Income Security Act (ERISA).

How does the MLR rule work?

The MLR rule requires carriers in the individual and small group markets to spend at least 80% of premium revenue across their book of business on care and quality improvement activities. For carriers in the large group market, the requirement is 85% of premium dollars. The remainder may be used for carrier administrative costs, marketing and profits.

Carriers must report their prior year’s MLR calculation to the federal government by July 31. If a carrier fails to meet the applicable threshold, they must provide a rebate, or refund of premium, to policyholder by Sept. 30. The policyholder is generally the employer.

What should you do with the MLR rebate?

If you receive an MLR rebate from your carrier, you must generally follow certain rules established by the Departments of Labor (DOL) and Treasury (IRS) to avoid potential penalties, tax liabilities and breaches of fiduciary duties.

How to determine who is entitled to the rebate

Remember, an MLR rebate is a refund of premium paid in the previous year because your carrier didn’t spend enough dollars on care. Accordingly, a crucial first step is to determine who is entitled to the rebate.

100% employer-paid premiums: If you paid 100% of the medical plan premiums, you can retain the entire rebate.
100% employee-paid premiums: If your employees paid 100% of the medical plan premiums, they are entitled to the entire rebate.
Split premiums: If you and your employees contributed to the medical plan premiums, you must determine what percentage of the rebate belongs to you and what percentage of it belongs to your employees. You must treat the portion of the rebate attributable to employee contributions as “plan assets.”

What to do with a rebate that’s deemed a plan asset

If you offer a private-sector group medical plan, you are likely subject to ERISA. Under ERISA, plan assets are any investments the plan owns. You must use plan assets for the exclusive benefit of plan participants and beneficiaries.

In general, there are three options you can choose from:

Cash payments: You can distribute the rebate directly to employees who participated in the plan as a cash refund. See the tax implications section below for more information on the taxability issue raised.
Premium reductions: You can apply the rebate to reduce your medical plan’s future premium contributions for employees during the current calendar year. This option is administratively simple and ensures your plan participants benefit from the rebate.
Enhanced benefits: You can use the rebate to enhance your medical plan’s benefits, such as offering flu shots, increasing health savings account contributions, providing additional wellness benefits, or reducing out-of-pocket costs for participants. However, you should not use plan assets for anything that would benefit only a small number of participants, or benefit participants in a different plan. Also, you should not wait until renewal to apply the enhancement, as explained below.

When must you decide how to use the rebate?

Under ERISA, you must distribute any portion of your rebate that’s a plan asset within three months of receiving it. If you choose to use the rebate to enhance benefits, reduce premiums or lower out-of-pocket costs, you must use the plan asset portion within the calendar year and not spread it out over the course of another plan year.

What are the tax implications or MLR rebates?

The tax treatment of MLR rebates depends on whether your employees paid their premiums on a pretax or posttax basis.

If your employees paid their share of premiums with pretax dollars through a Section 125 cafeteria plan, any cash rebate distribution will be subject to federal income taxes and payroll taxes. Consult with your payroll department or tax advisor to ensure proper tax reporting on MLR rebate distributions to employees.

What if your plan is exempt from ERISA?

Not all health plans are subject to ERISA. Non-ERISA plans may not have the same stringent requirements for handling MLR rebates. Such plans include church plans and government plans. However, even if you sponsor a non-ERISA plan, you should still allocate rebates fairly between your contributions and your employees’ contributions. You must also comply with applicable state laws, and review your plan documents for any direction as to how rebates should be used.

Next steps

Properly handling an MLR rebate means knowing who is entitled to what. If you receive an MLR rebate from your carrier, carefully and promptly follow these steps:

Determine which of the prior year’s premiums the rebate applies to.
If a portion of the rebate is a plan asset, decide which distribution method(s) to use: cash payments, premium reductions or enhanced benefits.
Follow the DOL’s rules for plan assets and the tax code’s rules for cash distributions.
Tell employees how you will allocate and use the rebate.
Seek legal counsel if you are unsure of your employer responsibilities. They can help ensure ERISA and tax code compliance.

This content is for informational purposes only, should not be considered professional, financial, medical or legal advice, and no representations or warranties are made regarding its accuracy, timeliness or currency. With all information, consult with appropriate licensed professionals to determine if implementing any recommendations would be in accordance with applicable laws and regulations or to obtain advice with respect to any particular issue or problem.