On March 11, 2021, President Biden signed into law the American Rescue Plan Act of 2021 (ARPA) which contains a variety of employee benefit provisions. ARPA contains both mandatory and discretionary provisions relating to benefits. The following summarizes the provisions of ARPA relating to COBRA premium subsidies (mandatory changes), changes to the cap on pre-tax dependent care assistance benefits (discretionary), changes to section 162(m) of the Internal Revenue Code relating to a corporation’s deduction for executive compensation in excess of certain limitations (mandatory but not effective until 2026), and updates to the employee retention credit (initially implemented as a part of the Coronavirus Aid, Relief, and Economic Security Act, also known as the CARES Act).

INCREASE IN DEPENDENT CARE ASSISTANCE PLAN LIMITS (DCAP)

Generally, an employee is entitled to exclude from gross income amounts received from the employee’s employer under a dependent care assistance program (DCAP) that satisfies certain requirements. Most employers provide these benefits through dependent care flexible spending accounts under a cafeteria plan which are subject to the DCAP limits.

The annual limit on pre-tax employer reimbursements from a DCAP are limited to $5,000 ($2,500 in the case of a separate return filed by a married individual). ARPA provides, however, that, for the 2021 calendar year only, the DCAP limit is increased to $10,500 ($5,250 in the case of a separate return filed by a married individual). This increased limit ends as of December 31, 2021.

Employers may, but are not required to, amend their plans to reflect the increased DCAP limit. Any such amendment must be made on or before the last day of the plan year in which the amendment becomes effective (but can be retroactive to the beginning of 2021). Employers with fiscal year plans will need to pay special attention to how this limitation works for their plans. In addition, prior guidance (the Consolidated Appropriations Act of 2021, also known as the CAA, described in more detail here) permits employers to amend their flexible spending account plans to permit mid-year election changes. These amendments will need to be coordinated with the increased DCAP limits if applicable.

Note that if an employer decides not to amend its plans to reflect the increased limit, employees may still be eligible for certain child care credits for 2021 based on the higher limits.

CHANGES TO CODE SECTION 162(m)

Section 162(m) of the Code limits to $1,000,000 a public corporation’s deduction for compensation paid to each of its “covered employees”. In general, a “covered employee” for this purpose means the principal executive officer (PEO), the principal financial officer (PFO), and the three next most highly compensated officers. Amendments made by the Tax Cuts and Jobs Act of 2017 significantly expanded the scope of Section 162(m) effective as of January 1, 2018 by eliminating certain exceptions from the $1,000,000 limit and expanding the limitations on the deductibility of compensation paid to a covered employee to include compensation paid at any time after an individual became a covered employee (the “once a covered employee always a covered employee” rule).

ARPA further expanded the reach of Section 162(m) beginning with tax years beginning on or after January 1, 2027. In particular, ARPA expands the number of covered employees to include the five most highly compensated employees (the “next top five group”) in addition to PEO, PFO and the next three most highly compensation officers. It does not appear that the next top five group must be comprised of officers. The “once a covered employee always a covered employee” rule, however, does not extend to the individuals included in the next top five group. Rather, individuals are included in the next top five group only so long as they are in that group.

We expect that more guidance will be issued with respect to the Section 162(m) changes prior to the 2027 effective date (assuming no additional changes between now and then). The practical import of the current changes as currently enacted, however, will be that an employer will need to keep two lists of covered employees: (1) a “regular” list which will include the PEO, PFO and the next three most highly compensated officers who will be covered employees into the future under the once a covered employee always a covered employee rule and (2) an “annual” list which will include those individuals in the next top five group for the applicable year.

EMPLOYEE RETENTION TAX CREDIT FOR JULY 1, 2021 THROUGH DECEMBER 31, 2021

ARPA expands the refundable “employee retention credit” into the last two quarters of 2021. The employee retention credit was originally included for 2020 in the CARES Act passed in March of 2020 (our summary of the employee retention tax credit as included in the CARES Act can be found here) and the credit was then expanded into the first two quarters of 2021 by the CAA passed in December of 2020 (our summary of the employee retention tax credit as included in the CAA can be found here). As with the prior versions, ARPA continues the credit for employers whose business was fully or partially suspended as a result of COVID-19, or who have a significant decline in gross receipts, to encourage continued payment of employee wages and continued coverage under employer sponsored health plans. Additionally, ARPA adds a new category of employers eligible for the employee retention credit called a recovery start-up business.

Amount of the Credit. The refundable credit in the CAA generally equals 70% (it was 50% in the CARES Act) of each employee’s “qualified wages” paid on or after July 1, 2021 through December 31, 2021. As discussed below, whether wages constitute “qualified wages” is determined on a quarterly basis; the maximum amount of qualified wages taken into account for any employee for each quarter in 2021 is $10,000; as a result, the maximum credit per employee is $7,000 per quarter (rather than annual limits as contained in the CARES Act for 2020). For a recovery start-up business, the credit is capped at $50,000 in the aggregate for all employees for any such quarter.

The employee retention credit is a credit against applicable employment taxes and is limited to the employer’s employment taxes, reduced by certain other credits; to the extent that the amount of the employee retention credit exceeds the amount of applicable employment taxes for any quarter, such excess amount is treated as an overpayment and is refunded to the employer. Interestingly, ARPA changes the definition of applicable employment taxes from the 6.2% owed for the Social Security portion of FICA to the 1.45% owed for the Medicare portion of FICA (it is not clear why such change was made in ARPA). For Small Employers (as defined below), the CAA provides that the credit can be advanced each quarter in an amount not to exceed 70% of the average wages paid by the employer for the corresponding quarter in calendar year 2019 (any excess amount advanced must be repaid). There are special rules for Small Employers with seasonal workers for calculating the amount of the advance.

Eligible Employers. An eligible employer is an employer carrying on a trade or business during the calendar quarter in 2021 that meets one of the following criteria with respect to such calendar quarter:

  • The employer’s trade or business is fully or partially suspended during such quarter due to government orders limiting commerce, travel, or group meetings due to COVID-19.
  • The employer’s gross receipts during one of the last two quarters in 2021 are less than 80% of those for the same calendar quarter in the 2019. The CAA contains a new rule that permits employers to also choose to use the last preceding quarter for purposes of this comparison as well. If an employer’s gross receipts are less than 10% of those for the comparable quarter, then such employer is considered severely financially distressed for purposes of determining qualified wages as described below.
  • An employer that constitutes a recovery start-up business which began as a trade or business after February 15, 2020 and which does not have average annual gross receipts in excess of $1,000,000 over the last three years (it is not clear why a three-year average concept was added for businesses that are so new).

Qualified Wages. The definition of “qualified wages” depends on the size of the employer, determined on a controlled group basis, and in each case, is limited to $10,000 per quarter in 2021 per employee. For employers that had 500 or fewer full-time employees in 2019 (a “Small Employer”) or a Large Employer (as defined below) that is severely financially distressed, “qualified wages” includes all wages and compensation paid by the eligible employer during the applicable period up to the limit described above (i.e., a period during which business is suspended as a result of a government order due to COVID-19 or a calendar quarter that meets the reduction in gross receipts test). For organizations that had more than 500 full-time employees in 2019 (a “Large Employer”) that is not severely financially distressed, “qualified wages” include only wages and compensation paid to employees who are not providing services due to the reasons making the employer eligible for this credit (i.e., either as a result of a suspension of business pursuant to a governmental order due to COVID-19 or a reduction in gross receipts).

In each case, “qualified wages” includes not only wages (as defined in Section 3121(a) of the Code) and compensation (as defined in Section 3231(e) of the Code), but also all amounts paid by the employer for the employee’s group health plan coverage, provided those amounts are excluded from income under Section 106(a) of the Code.

SUBSIDIZED COBRA BENEFITS

Subsidized COBRA benefits have been discussed frequently over the past year, and ARPA finally provides those benefits. Those who recall the American Recovery and Reinvestment Act of 2009 (also known as ARRA) may find ARPA’s COBRA subsidies familiar, as they follow roughly the same guidelines.

  • Who’s Eligible? “Assistance eligible individuals” who elect COBRA may receive subsidized COBRA under ARPA. An “assistance eligible individual” is generally someone whose qualifying event occurs as a result of termination of employment or reduction of hours, except that individuals who voluntarily terminate their employment or whose employment is terminated due to gross misconduct are not eligible. An individual’s qualifying event need not occur after ARPA or as a result of the COVID-19 pandemic—rather, it appears the individual must simply be within the period during which he or she is eligible for COBRA. Note that even individuals who are eligible for but have not elected, or who have elected and discontinued COBRA, may elect subsidized COBRA coverage beginning on April 1, 2021. ARPA requires that if an assistance eligible individual does not already have an election in effect, the individual must make an election within 60 days after the individual receives notice about subsidized COBRA from their plan administrator (described in more detail below). Presumably, however, individuals would have an extended time frame to make such an election, based on Department of Labor guidance giving individuals an extended time to take certain actions—including making COBRA elections—due to the COVID-19 pandemic.
  • What’s Covered? The subsidized COBRA coverage under ARPA includes both federal COBRA continuation coverage as well as comparable coverage provided under state law (we generally refer to these, collectively, as COBRA). COBRA continuation coverage for health flexible spending arrangements under a cafeteria plan is not included. An individual may elect to enroll in the coverage in which she was previously enrolled or, if permitted by their employer, the individual may enroll in other coverage available to similarly situated active employees if (a) the premium does not exceed the premium for the coverage in which the individual was enrolled at the time of the individual’s qualifying event, and (b) the other coverage is not an excepted benefit, a qualified small employer health reimbursement arrangement (QSEHRA), or a flexible spending arrangement (FSA).
  • What’s the Duration of Subsidized COBRA? The subsidized COBRA coverage period generally runs from April 1, 2021 through September 30, 2021. An assistance eligible individual may cease to be eligible for subsidized COBRA earlier—specifically, on the first of the month on or after the individual (a) becomes eligible for benefits under another group health plan (other than excepted benefits, a QSEHRA, or an FSA) or Medicare, or (b) exhausts the maximum period of COBRA continuation coverage to which he is entitled.
  • Who Pays? Assistance eligible individuals are treated as having paid the full COBRA premium, including any administrative fee, for the duration of the subsidized COBRA coverage period. If an individual pays for COBRA but would have been entitled to subsidized coverage, she must be reimbursed the amount of such premiums (up to the amount of the subsidy) within 60 days. Individuals are not required to include the amount of the subsidized COBRA coverage in their income. In most cases, the employer is responsible for paying the premium on behalf of the individual and is entitled to a refundable credit on the employer’s Medicare taxes in the amount of such premiums. (For multiemployer plans, the plan is entitled to the credit; for fully insured plans that are not subject to federal COBRA, the insurer is entitled to the credit.) This credit may be advanced, pursuant to forms and instructions to come.
  • What Notices are Required? ARPA includes notice requirements for both assistance eligible individuals and plan administrators.
    • An assistance eligible individual must notify their group health plan if they become eligible for benefits under another group health plan or Medicare. Failure to do so could result in penalties (generally $250, though can be up to 110% of the premium assistance provided if the failure was fraudulent, or eliminated entirely in the event of reasonable cause).
    • Plan administrators will not be considered to have satisfied COBRA’s notice requirements unless they provide the additional notice requirements set forth under ARPA. The plan administrator must provide an initial notice about the availability of subsidized COBRA and the individual’s ability to enroll in other coverage options. This notice will generally be provided along with COBRA election notices; for those who have already received such paperwork, it must be provided within 60 days of April 1, 2021. In addition, in most circumstances, the plan administrator must furnish a notice regarding the expiration of the subsidized COBRA period and other options for obtaining coverage thereafter. This notice generally must be provided sometime between 45 and 15 days before the assistance eligible individual’s subsidized COBRA coverage period expires.

The text of ARPA indicates that regulations, guidance, and model notices implementing and explaining provisions regarding subsidized COBRA will be forthcoming. In addition, we expect that the DOL will issue some type of guidance helping to reconcile the time frames required under ARPA with the DOL notices extending time frames for making COBRA elections and payments (described in more detail here). Ed. note: the DOL issued summary information, initial FAQs and model COBRA subsidy notices on April 7.  All are available here.


This post summarizes the executive compensation and health and welfare changes under ARPA. Look for our follow-up post detailing ARPA’s impact on retirement plans.

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