COBRA subsidy provides worker planning choices

May 17, 2009
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One of the first provisions of the American Recovery and Reinvestment Act of 2009 (ARRA) to become effective was the nine-month, 65 percent subsidy for COBRA premiums for eligible COBRA qualified beneficiaries (called “assistance eligible individuals” or AEIs). Unlike many of the other provisions of ARRA, the stimulus benefit of this provision flows to individuals, not employers or businesses. While the federal government ultimately pays for the 65 percent COBRA premium subsidy, employers serve as the delivery mechanism for providing the benefit to individuals and bear the initial cost and administrative burden of providing the benefit.

An AEI pays 35 percent of the normal COBRA premium. The employer is then responsible for the remaining 65 percent of the premium. The employer is subsequently reimbursed by the federal government through a tax credit equal to the remaining 65 percent of the premium. The credit offsets the employer’s liability for income tax and FICA withholding purposes. Even though the COBRA premium subsidy is not designed to provide a direct benefit to employers, there is still an opportunity for employers to take advantage of the subsidy in structuring severance benefits.

Many employers pay all or a portion of the COBRA premium for employees who are terminated, for example, in a reduction in force. But the employer contribution is disregarded for purposes of determining the amount of the tax credit the employer is entitled to receive. In other words, the employer does not get reimbursed for 65 percent of the COBRA premium it pays for the former employee. However, if instead of paying the COBRA premium for the former employee, the employer provides the employee with a cash benefit equal to 35 percent of the employee’s COBRA premium, the employee would still receive COBRA coverage at no cost, but the employer would get a tax credit for the remaining 65 percent of the premium.

Susan H. Sherman is an attorney with Miller Johnson and is a member of the firm’s Employee Benefits Practice Group.

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