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August 14, 2013
In the world of opens in a new windowmergers and acquisitions, both sides of the due diligence process often overlook the impact on their company’s benefits plan. There are 3 fundamental positions to consider:
1. What will happen to the seller’s existing plan?
2. What hidden costs are lurking for the buyer?
3. How will the buyer’s and seller’s plans integrate?
There are several ways a seller’s plan can be impacted. In some cases, the selling organization ceases to exist while in others, only pieces of the organization are sold.
Ceases to Exist
Assuming a total sale under which all employees and assets are transferred to the buyer, any employees or owners that did not transition to the new ownership group would cease to have access to coverage, even at their own expense through COBRA. In the event the bought out owner still needs health insurance, this should be a major consideration.
Consider a family-owned business. The employees of the business transition to the buyer, but the sellers do not intend to make the transition. In some cases there might be three generations of family members that will not be employed but will still need health insurance. While the senior family members would likely have access to Medicare, the junior members would still need coverage. This concern is finite, as healthcare reform will re-create the individual insurance marketplace, but until the exchanges are at full speed, this remains a consideration.
Recognizing the need for coverage, many contracts contain a provision that requires the buyer to continue to offer coverage to the sellers for a pre-determined amount of time. While perfectly legal, from an insurance standpoint it can create problems. Nearly all insurance contracts and now the opens in a new windowAffordable Care Act (ACA), require that anyone enrolled on the plan must be working full time for the employer. Even if the insurance companies will allow it, creating a special class of employees to maintain coverage for the sellers could create a discriminatory plan in the eyes of the DOL as it relates to the ACA.
Continues to Exist
If the seller continues to operate a business and maintain a group plan, COBRA dictates that the plan must continue to fulfill its COBRA obligations to anyone on COBRA at the point of sale. From a practical perspective, it may be very hard to find affordable coverage for a small group that includes several COBRA continuees. Also speaking practically, as groups shrink they can lose access to economies of scale in the insurance companies eyes and both terms and pricing can adjust significantly.
Analyzing and quantifying any unfunded liabilities in a benefits plan is paramount. The most common form of unfunded liability is “tail coverage” from a self-insured plan. Tail coverage is a form of insurance that prevents a plan from having self insured claims come in after the plan is terminated. While tail coverage is important to have in place and understand, there is still a claims threshold that must be met before the coverage triggers. Asking if there is an estimate of “incurred but not reported” claims and if there is an accrual that has taken place for this contingency is key.
Much like a deductible, the selling plan should have a realistic estimate of “incurred but not reported” claims, i.e. those doctor and hospital visits that people have made, but haven’t been submitted or processed by the claims payer. A good rule of thumb is that there is a two month claims lag, so if a plan is terminated on July 31st, there would still be two solid months of claims being processed and paid. For a two million dollar annual spend, the incurred but not reported (IBNR) claims should be somewhere between $250K and $350K. It would be valuable to determine if the accounting team has been accruing for these claims.
Other Items to Note
Occasionally savvy buyers will insert a clause in the purchase agreement that requires the seller to maintain liability for the current COBRA enrollees. As mentioned prior, if the seller has no intention of keeping a group health plan in place there is no place for the COBRA enrollees to maintain coverage. The concern is not that these people will not have coverage, their rights will transfer to the buyer’s plan, but it would create a contractual breach that–in the event of high claimants–could easily reach hundreds of thousands of dollars in unintended liability per person! Depending on your perspective, knowing what COBRA liability there is and who will maintain it should be carefully vetted.
Finally, it is important to ask some basic questions about any requests for information from the DOL or IRS and perform a review of benefits practices. The penalties and fines associated with COBRA, HIPAA, ERISA, and the ACA can all be substantial. Performing a review of all documents and procedures should be performed by any prospective buyer.
Buyer’s and seller’s plans seldom have the same network, coverages, out of pocket expenses, or payroll deductions. In the event they do not have identical plans and costs, there will be a significant amount of cross-referencing that will need to take place. Contrasting the two plans and understanding and communicating the differences for the new employees will be an early indication of how well the new employer is perceived. And beware, the ACA requires that all employees are treated equally, so even if the new employer is tempted to grandfather the new employees former plan, there is no legal way to do that. Getting a handle on how different the benefits plans are, whether there is coverage in any new locations, and how different the payroll deductions are, will go a long way in making sure the new employees feel valued and appreciated.
There are a number of financial, legal, and morale based considerations that need to be understood before making or accepting a final offer. The good news is that you don’t have to be the expert in these matters you just need to call in the people who are.