As a refresher, age-banded rates are set by the carrier to cover a specific premium for each age group. These rates are applicable to the small group market, where size may vary based on state rating rules. In contrast, composite rates are set by the carrier based on demographics and will be consistent across enrollees, meaning rates will vary by enrollment tier but not age. We do not recommend that employers create composite rates where the carrier is billing on an age-banded basis. This is because it can result in issues under ERISA and the Age in Employment Discrimination Act (ADEA).
Specifically, under ERISA, an employer cannot charge an employee a higher premium than what is set by the carrier. Since younger enrollees typically have lower premiums than older enrollees under age-banded rates, creating a composite rate may result in the younger individual paying a higher premium than the age-banded rate would allow. This would be a direct violation of ERISA fiduciary duty rules.
Additionally, if the employer calculates its own composite rates, it becomes unworkable if new employees are hired or if employees who were employed when the rates were set later terminate employment or plan participation. Essentially, if the client hires a new employee (or an employee is dropped from coverage), the average rate per employee would be affected (i.e., the employer will have to calculate a new composite rate based on the newly hired or fired employee). In other words, the insurer would be billing for a higher or lower total premium, and the employer’s calculated composite rate may not match the premium charged by the insurer.
This scenario is further augmented by the dependent tiers. Even though an insurer could calculate composite rates for dependents, the employer composite rate for dependents may not accurately reflect the actual amount charged by the insurer. With or without the dependent tier structure, this would cause the employer to over or undercharge plan participants and would be viewed as a violation of their ERISA fiduciary duty. Conversely, where the insurer creates a composite rate, they are required to maintain that composite rate throughout the year regardless of the change in the employer’s employee demographic changes.
The other possible issue with an employer setting their own composite rates is the ADEA, which prohibits employers from discriminating against employees aged 40 and older. Employers have two choices if they want to stay in compliance with the ADEA:
- Contribute a percentage of the premium charged by the insurer (i.e., a percentage based on the individual rates received from the insurer).
- Implement a fixed dollar contribution amount for employees’ payroll deduction (and the employer would absorb the rest).
If the employer structures the employee contribution in any other way, including a set employer contribution, the result will violate the ADEA.
So, setting composite rates when the insurance carrier passes on age-banded rates could cause employers to violate both ERISA and the ADEA. Employers should consult with legal counsel if this is an issue they need to remedy.