Employers pressed to fill immediate contingent workforce needs may be tempted to “lease” recently retired employees through a temporary service agency rather than rehire them directly. Although this solution appears practical on its face, employers run into serious legal pitfalls with this approach.
Common Law Employer – Dual Employment
An employee of a temporary staffing agency working on assignment with a recipient employer can be deemed the “common law” employee of both the recipient employer and the staffing agency. The IRS looks to who has the right to control and direct the individual – not only as to the result to be accomplished, but also to the details and means by which that result is accomplished. If the company is providing day-to-day direction in what the temporary worker does and how he or she does it, then the company could be deemed the common law employer of that individual. Because this test is largely subjective, the courts can interpret the same fact pattern a variety of ways.
The probability of an individual being classified as the recipient employer’s employee increases significantly when the retired worker is placed back in the same workstation, performing substantially the same or similar duties as he or she did before retirement. This is a red flag with the IRS, DOL and state employment agencies. In the vast majority of cases reviewed by the IRS and DOL, they have re-characterized temporary staffing agency employees as the common law employees of the recipient employer.
Retirees working through temporary staffing agencies may also be able to sue the recipient employer directly. The end result of these lawsuits will depend on the provisions of the plan at issue and how the courts interpret those provisions. In some instances, temporary or leased employees can be excluded as a class. Employer sponsors should ensure that all employee benefit and fringe benefit plans include appropriate and clear exclusionary language. The plan should also grant to the plan administrator clear and unequivocal authority to interpret and apply the plan provisions. This language protects the plan in the event of a lawsuit – the court will then overturn the plan administrator’s decision only if it is arbitrary and capricious.
Plan Payments May Not be Permitted
Retirement plans, such as 401(k) plans and pension plans, are not allowed to make in-service distributions except in narrow circumstances. Impermissible distributions destroy a plan’s tax-qualified status. If a retiree working through an agency receives payments while legally considered an employee, the distributions may be impermissible. Even if the payment is made between the retirement date and date of hire with the agency, the retiree may be considered to have never terminated employment, because the employment relationship was not completely severed. The factors the IRS would consider to determine whether an employment relationship was severed include: how much time has elapsed between the separation of service and return to work, whether there was an arrangement for the retiree to return to work and whether the retiree received training while retired.
Retirees May Need to be Counted for Non-discrimination Testing
Retirees rehired through an agency may also have to be included in the plan’s non-discriminatory coverage test if either:
they are considered co-employees of the employer and the agency or
they work on a substantially full-time basis with the employer and are under the employer’s primary direction and control.
Large numbers of these employees can potentially skew testing results.
Agency Service May Need to be Counted
Finally, retirees working through agencies, but considered employees, are entitled to have their agency service counted for retirement plan purposes.
This includes not only vesting, which is probably not an issue for retirees, but may also include benefit accruals, such as the right to make 401(k) deferrals and receive a match or to accrue a pension benefit, unless the plan has appropriate exclusions. If the plan has minimum hour requirements for counting service, the employer cannot manipulate hours to prevent the retiree from accumulating enough hours. This tactic would open the employer to claims under ERISA Section 510, which prohibits an employer from interfering with an employee’s right to benefits under an ERISA-covered plan.
Most welfare plans are currently drafted to exclude temporary or leased employees from coverage. These blanket exclusions may be problematic under the Affordable Care Act (ACA) if those individuals are the common law employee of the employer and are working an average of 30 hours a week or more. If the temporary staffing agency worker is a common law employee of the recipient employer, it can cause serious problems with ACA compliance.
Are Small Employers Subject to Employer Responsibility Requirements?
A small employer that would not otherwise be subject to the employer responsibility provisions may find itself on the hook for substantial penalties if it does not appropriately include those temporary staffing agency workers in its calculations to determine whether it is offering coverage to enough workers.
For example, suppose that XYZ Company has 40 regular full-time workers and uses 30 full-time temporary workers. If XYZ counts only its regular full-time workers, it would conclude that it is not subject to the employer responsibility provisions and does not have to offer its workers health benefits. But, if XYZ has sufficient control over the day-to-day activities of the 30 temporary workers, XYZ may be the common law employer of those workers. If so, XYZ would have more than 50 full-time equivalent employees and would be subject to penalties in 2016 for failing to offer coverage to at least 95% of its full-time workforce. XYZ’s penalty would be $2,000 times the number of its full-time employees, less 30, which translates into an $80,000 annual penalty.
Determining Who Must be Offered Coverage
Larger employers already subject to the employer responsibility requirements may need to offer coverage to temporary staffing agency workers in order to hit the necessary target percentage under the employer responsibility requirements. For example, ABC Company has 400 regular full-time employees, plus it uses an additional 15 full-time temporary workers. While it offers its regular full-time employees health plan benefits, ABC does not offer any benefits to the temporary workers. If ABC were the common law employer of the temporary workers, it would have to pay a $3,000 penalty for each one of the temporary workers who obtained subsidized coverage through the Health Insurance Marketplace. If all 15 obtained subsidized coverage, the penalty would be $45,000.
However, the impact can be even more significant. If ABC Company was the common law employer of 30 temporary workers, those workers would cause ABC Company to miss its 95% target under the employer responsibility provisions. This would mean that ABC would have to pay the penalty for failing to offer coverage ($2,000 times the number of full time employees less 30), which in this case would equal an $800,000 annual penalty!
Properly Structure Temporary Staffing Agency Contracts
Many employers using the services of temporary staffing agency workers don’t even have a contract in place regarding those arrangements. Employers seeking to avoid these significant fines can reduce some of the risk by entering into clearly written contracts with the temporary staffing agency which provide the following:
The temporary staffing agency is the employer of record and is responsible for offering minimum essential coverage that meets both affordability and minimum value requirements to all employees providing services to the recipient employer within 90 days of the date they start working for the recipient employer;
The temporary staffing agency will timely comply with all ACA reporting requirements both to the government and the individuals; and
The temporary staffing agency will indemnify the recipient employer for any ACA penalties incurred as a result of utilizing their services. As explained in the ABC example above, the potential penalty is not based just on the number of temporary staffing agency employees but all workers deemed full-time.
An employer can reduce the risks of ACA penalties even further by taking advantage of the “deemed offer of coverage” rule, which allows a recipient employer to count the temporary staffing agency’s offer of coverage as its own, provided that the temporary staffing agency charges a higher amount/rate for those employees which actually enroll in the temporary staffing agency’s group health plan. IRS officials have been clear that a flat dollar charge for all employees (regardless of whether they enroll in the temporary staffing agency’s plan) won’t work. To date, the IRS has not provided any specific guidance as to the necessary amount of the additional fee, and it appears that a minimum amount (such as $1/month) may be sufficient to fall within these guidelines.
Temporary Workers May Also Count for Non-discrimination Tests
As with retirement plans, if any of the temporary workers are deemed to be your common law employees, they will also have to be included in your non-discrimination testing. Large numbers of such employees could skew testing outcomes.
Evaluate Other Health and Welfare and Fringe Benefit Plans
As we previously reported in the last HR Focus newsletter, "Employing Retirees Part 2: Take Steps to Avoid Problems with Health & Welfare Plans," there are a range of pitfalls in rehiring retirees, such as losing the retiree-only exception under the ACA. Employers should review all existing active and retiree group health and welfare and fringe benefit plans and evaluate whether amendments are necessary for situations where retirees return to service via a temporary staffing agency.