Safe Harbor (ACA)
Summary Definition: Methods for demonstrating a health care plan’s affordability under the Affordable Care Act (ACA) to avoid tax penalties.
What is ACA Safe Harbor?
Safe harbors in the Affordable Care Act (ACA) are methods for an employer to demonstrate that it provides “affordable” health coverage to its employees as defined by the act.
The ACA was a sweeping law passed in 2010 that requires Applicable Large Employers (ALEs) to offer affordable health insurance coverage to their full-time employees or pay tax penalties.
Definition of Affordability under the ACA
Affordability is based on the percentage of household income that has to be spent on a company’s least expensive self-care offering. For 2024, a plan is deemed affordable if the least expensive option is less than 8.39% of a household’s income.
Since employers don’t have access to complete household income (given there may be multiple income sources), the Internal Revenue Service (IRS) provides three affordability safe harbors to serve as proxies.
Key Takeaways
- Safe harbors are ways for employers to demonstrate that their healthcare plans are affordable under the standards of the Affordable Care Act (ACA).
- There are three safe harbors: W2 Box 1 Wages, Rate of Pay, and Federal Poverty Line (FPL). Each has advantages and disadvantages for different employers.
- Employers need to demonstrate affordability under one of these safe harbor guidelines, or they could be subject to IRS tax penalties.
Types of Affordability Safe Harbor
Each safe harbor method has distinct advantages and disadvantages for different employers and employee types. Some prioritize simplicity and standardization, while others are more flexible and adaptable for irregular workforces.
Specific rules and regulations related to the ACA may change over time, so you should consult legal or regulatory experts before deciding which method to use.
W-2 Box 1 Wages Safe Harbor
Under this method, the monthly premium for self-only coverage must not exceed 8.39% of the employee's W-2 Box 1 wages, which is the employee's gross income minus pre-tax deductions. The coverage must be affordable for all the months the employee is eligible.
For example, an employee with a W-2 Box 1 wage of $80,000 would have to have a maximum monthly premium of $559.33 or less for their employer’s plan to be labeled as affordable.
W-2 Box 1 Safe Harbor Calculation
[$80,000 x 8.39% affordability threshold = $6,712] / 12 months = $559.33 maximum per month
Advantages: Because coverage must be considered affordable throughout the year, the W-2 Box 1 Wage Safe Harbor is a good option for employers with mostly salaried, full-time employees who work steady hours.
Disadvantages: This method can become complicated to administer if an employee goes out on unpaid leave or works erratic hours that make the employee’s W-2 pay less than expected.
Federal Poverty Line (FPL) Safe Harbor
This method uses the FPL as its baseline, which is adjusted annually based on the cost of living. To qualify, the monthly premium for self-only coverage must not exceed 8.39% of the FPL for the employee's household size.
The poverty level guidelines are not available until the end of January or later, therefore IRS guidance allows employers to use the poverty guidelines in effect within six months before the first day of the employer’s plan year. In other words, an employer with a January 1, 2024 plan year start may use the 2023 federal poverty guideline amount to determine the 2024 FPL safe harbor's monthly threshold amount.
For 2024, the FPL for a one-person household is $14,580, which means for a plan to be called affordable the maximum monthly premium for self-only coverage can’t exceed $101.94.
FPL Safe Harbor Calculation
[$14,580 (FPL) x 8.39% affordability threshold = $1,223.26] / 12 months = $101.94 maximum per month
Advantages: The FPL Safe Harbor is the simplest of the three methods, as it isn’t affected by the employee’s hourly rate, number of hours worked, or total annual income. In other words, the calculation is more standardized for all workers.
Disadvantages: It’s likely the least affordable for most employers because it doesn't allow them to charge higher premiums to high-income employees. For most employees, the FPL Safe Harbor method will result in the lowest maximum affordable premium.
Rate of Pay Safe Harbor
This method uses an employee’s regular rate of pay to gauge affordability. To qualify, the monthly premium for self-only coverage must not exceed 8.39% of either:
- The employee's lowest hourly rate of pay multiplied by 130 hours
For example, if an employee makes $10 per hour, their maximum monthly premium must be no more than $109.07 [(10 x 130] x 8.39% = 109.07).
OR
- The employee's monthly salary (provided it wasn't reduced during the year)
For a salaried employee making $1,000 bi-weekly, the maximum monthly premium must be no more than $181.78 [ (1,000 x 26) ÷ 12 months] x 8.39% = 181.78).
Rate of Pay Safe Harbor Calculation
Hourly Worker
[$10 x 130 hours = $1,300] x 8.39% affordability threshold = $109.07 maximum per month
Salaried (with bi-weekly pay)
[ ($1,000 x 26 pay periods = $26,00) / 12 = $2,166.67 ] x 8.39% affordability threshold = $181.78 maximum per month
Advantages: Rate of Pay Safe Harbor is a fairly predictable method. Regardless of the numbers of hours worked by the individual employee, the affordability calculation is always based on the hourly pay rate multiplied by 130 hours. Simply put, an employer can perform the calculation for their lowest-paid employee and if the premium is affordable for that employee, it'll be affordable for everyone.
Disadvantages: Because of the 130-hour standard, Rate of Pay Safe Harbor may not allow for the highest employee premium contributions. A company can't take advantage of accumulated employee income when they regularly work more than 30 hours per week.
ACA Safe Harbor Codes
The IRS requires all ALEs to report employee health coverage on Form 1095-C. Use the following codes on Line 16 to indicate which safe harbor method was used.
| Code | Safe Harbor Method |
|---|---|
| 2F | W2 Box 1 |
| 2G | Federal Poverty Line |
| 2H | Rate of Pay |
ACA Non-Compliance Penalties
Employers who fail to demonstrate affordability under the ACA may be subject to two types of penalties called “employer shared-responsibility payments.” This failure is most easily confirmed when a full time employee is eligible for and/or receives a premium tax credit for a healthcare marketplace despite being enrolled in the employer's plan. Effective December 31, 2023, these penalties include the following amounts:
- 4980H(a) Penalty - If the employer fails to offer coverage or offers it to less than 95% of its full-time employees and their dependents, they're fined $2,970 per full-time employee (minus the first 30 employees).
- 4980H(b) Penalty - If the employer offers coverage that isn't "affordable" or doesn't have "a minimum value", they're fined each month there's a violation and must pay the lesser of the following amounts:
- $2,970 per full-time employee (minus the first 30 employees)
- 1/12 of $4,460 per employee who received a tax credit that month
Employers should review IRS safe harbor guidance and speak to a trusted legal advisor for additional guidance. Previous penalty amounts are provided on the IRS website.
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