Dependent Audits: What Is Their Function?

Tuesday, May 25, 2010

In an era of extremely tight corporate budgets coupled with soaring employee benefit costs, organizations frequently conduct dependent audits in an effort to identify and remove ineligible employee dependents from company benefit rolls. Over time, as employees co-habitat, marry, have children, divorce, re-marry, and children age-out; it is likely that ex-spouses and over-age children are inadvertently left on an employee’s benefits. Employees may declare a significant other as a legal spouse with little or no thought given to the financial impact to their employer. Unless an organization periodically conducts a dependent audit to determine the legal status of claimed dependents, it is likely that over time a company’s benefits rolls will include a significant number of ineligible employee dependents. Hewitt Associates LLC, a nationally recognized HR consulting firm, estimates that a typical audit identifies that 4% to 8% of employee dependents are ineligible for coverage under the employee’s benefit plans. While 4% to 8% may not sound like a large number, consider that with 2009 health care costs running at approximately $9,000 per enrolled participant, every 100 dependents could yield excess claims costs of $36,000 to $72,000.

A common practice in conducting a dependent audit is to require employees to verify dependent status by submitting copies of marriage licenses, birth certificates, adoption orders, medical support orders or other relevant documents for enrolled dependents. Employees are provided with a list of dependents currently covered under their employer’s benefits plans, including, health, dental, life, disability, and other programs and given 30 to 60 days to respond with proof of dependency. During the response window, employees generally may remove any covered ineligible dependents without fear of negative repercussions from the employer's benefit Plans. Employees who self identify their ineligible dependents are typically not required to reimburse their employer for any incorrectly paid claims. However, if an employee fails to remove an ineligible dependent and the employer discovers an ineligible dependent later, the employee may be subject to the disciplinary policies of the organization, including termination of employment.

While a dependent audit is certainly helpful in identifying and managing ineligible dependents, by their very nature, the employer may have already paid out thousands of dollars in claims and premium expenses by the time the ineligible dependents are removed. A more proactive practice would be to ensure that an organization’s enrollment processes, policies, and practices prevent ineligible dependents from every being added to the employer’s benefit rolls.

Simple practices include: 

1. Require proof of dependency at time of hire, benefit’s eligibility status change, and/or enrollment for spouses and children.

2. Require proof of dependency at time of marriage, birth or adoption.

3. Validate medical support orders prior to implementation.

4. Require proof of enrolled children’s age.
    (Patient Protection and Affordable Act allows coverage through age 26.)

5. Track the DOB for children and monitor their age.

6. Provide annual total compensation statements listing any covered/enrolled dependents.

7. Ensure that all employee communications clearly state dependent eligibility requirements.

8. Periodically review employee benefits enrollment processes, procedures, and practices to ensure they are compliant with Federal, state, and local laws.

9. Periodically reconcile and balance carrier enrollment reports against payroll/HRIS data to ensure plan and tier enrollments match.

10. Monitor LOA’s and COBRA enrollments to ensure that ineligible dependents are not added.

As with all issues dealing with employees, well planned communications in advance of any potential change in the employment relationship is essential to achieving the desired and successful outcome.

Do Pay Cuts Reduce Employee Performance

Monday, May 24, 2010

I recently reviewed an article published by WorldatWork titled, ”Do Pay Cuts Reduce Employee Performance? Evidence from Airline Pilots and Police Officers”. In the article, the author, Frank Giancola, reviewed the affects of economic recession on the stability of wages, the impact of wage reductions on performance, and the relevant theories associated with “wage rigidity”. To determine if wage reductions had an impact upon the performance of airline pilots, the author reviewed one study (1) of airline on-time arrival and departure times. The study reported to have found a minor decline in on-time arrival and departure times when the cutbacks were announced, thereafter, arrival and departure times returned to normal. A second study (2) reviewed by the author involved police officers and the outcomes of final-offer arbitration processes used to settle wage and other labor disputes. As might be expected, when police officers prevailed in a dispute, performance did not decline; however, the opposite was true when the employer prevailed.

Intuitively, the casual observer might conclude any significant reduction in wages would always lead to a reduction in performance and an increase in performance related behaviors, such as absenteeism. How could it not? While we all want to believe, the only reason for any employee to report to work is purely economics and self-severing, many employees do have needs beyond those of basic physiological and safety. Consider that as employees we spend upwards of one third of our lives in some sort of work environment interacting with numerous other individuals, e.g., co-workers, vendors, service personnel, customers. Like our families, religious, educational, and fraternal institutions, the work environment is a social organization in and of itself.

The bonds developed with co-workers can be every bit as strong as those formed with our immediate family members. Since we often spend more time with co-workers than we do with our spouses and children, we often know as much about the co-worker’s life, as we know about that of our own family. Co-workers form an extended support network, which delivers many of the needs not otherwise met in our family lives and even supplements others. During times of stress, our co-workers provide support, which may not available from other relationships and may even outlast marriages. Even when the employment relationship is broken, the co-worker bond is frequently and sufficiently strong enough to last for years or decades into the future.

Thus, far beyond meeting the basic needs of the employee, the work environment provides for satisfaction of many of the higher-level requirements of the individual that can often be found only in the work situation. In fact, one aspect of the concept of employee total rewards forms the basis for affiliation between the employee and the employer, co-worker community. We see the impact of affiliation every day in the form of religious and social organizations, and regrettable, even street gangs. So, sometimes, it is not just about the economy.

1. Lee, D. and N.G. Rupp. 2007. “Retracting a Gift: How Does Employee Effort Respond to Wage Reductions.” Journal of Labor Economics. October: 725-761.

2. Mas, A. 2006. “Pay, Reference Points, and Police Performance.” Quarterly Journal of Economics. August: 783-821.

Lump Sum Payments vs. Merit Pay

Thursday, May 20, 2010

Tradition has it that each year employees are reviewed for performance and if they meet the performance requirements of their organization the employee’s base pay may be increased by a percentage or flat dollar amount. Over time, the employee progresses through their designated pay range until they reach some maximum point within either the range or the end point of the range. Therefore, what does an organization do with an employee who has max’ed out and is no longer eligible for an incremental increase to their base pay? Assuming the employee is otherwise a “standard” or above level performer, what options are available to an organization to keep the employee motivated and focused?

The organization could simply inform the employee that they have reached the range maximum and send the employee back to their desk with a hardy handshake and a big “Thank You”. That approach might work for a few employees but my personal experience is that it will not work for very many or for very long. The organization could find some way to create a new job for the employee at a higher-grade level, however, in an economy when many jobs are being consolidated, that option may not pass muster. The organization could re-evaluate the employee’s job and determine if there have been sufficient changes in the employee’s level of duties to justify an upgrade. That approach might be easier to sell to management than a superficial promotion, but that action result in grade-creep and pressure from other managers to upgrade their employees as well.

Many organizations have adopted the practice of paying a single annual lump sum dollar amount to “standard” or above level performers in lieu of a percentage or flat dollar amount added onto their prior base pay amount. This has the ability of recognizing the employee’s continued efforts without distorting the employee’s position within the range relative to other performers. It also recognizes that there is a ceiling to the value of employee’s contributions to the organization. If you prescribe to the theory that labor is a commodity, then even the most highly talented employee has a maximum value. To justify paying 10%, 20% or 30% over the going market rate would require an employee with extrordary knowledge, skills, and abilities to say the least.

Lump sums generally limit the additional increment in costs associated with certain benefits, which are often tied to base pay such as life insurance and short and long-term disability. In addition, depending on the Plan language, retirement plans may not consider lump sum payments in the calculation of finial average pay or for use in calculating employer-matching amounts in defined contribution plans. Finally, since lump sums do not add to base pay, pay out of accrued time off at termination usually does not include such amounts.

Faced with the option of no increase, lump sum payments are a viable tool used in the recognition of an employee’s additional contributions. The basis for the actual amount could be based on a number of factors, including; a multiple of pay times weeks, a flat percentage equal to the organization’s merit budget or a flat dollar amount. As with most things, how lump sums are calculated is less important than how they are communicated to the employee. Significant thought should be placed into the communications phase to ensure that there are no mis-understandings.

Defined Contribution Audit Guidelines

Wednesday, May 19, 2010

The Employee Retirement Income Security Act of 1974 (ERISA) provides for Plan annual reporting and disclosure provisions under Title I of the Act. This is the requirement that retirement Plans with 100 or more participants, which hold assets in trust for participants are required to obtain an annual financial audit by an independent qualified public accountant (IQPA). An independent qualified public accountant is generally meant to be a Certified Public Accountant (CPA) who has no stake on interest with the Plan Sponsor other than performing the required annual audit.  Plan Sponsors should always engage professional, certificated, licensed legal and financial advice in dealing with employee benefit plan issues.

The purpose of the audit is to ascertain that the Plan Sponsor is operating the Plan according to all applicable laws, the Plan documents, in a prudent manner, and with the benefit of the participants in mind. To test this provision the auditor will conduct the audit using auditing standards (GAAP) that are generally accepted in the US and request to see a number Plan documents, examine various financial transactions, contact selected Plan Sponsor employees and participants, and contact investment, record keeping, and fund managers.

A typical audit will examine:

Plan Documents

Plan master document

Proto-type documents

IRS Letter(s) of Determination

Summaries Plan Document, Annual Report, and Materials Modification

SAS 70

Current draft and prior IRS 5500’s, related schedules, and prior auditor reports

Audit package from investment, record keeping, and fund managers

Participant’s periodic statements

Correspondence

Any correspondence between IRS, DOL or other applicable governmental agency and the Plan Sponsor relative to the Plan

Any correspondence between Plan Sponsor and attorneys concerning the Plan.

Plan Forms

Enrollment, fund allocation, transfer, rollover, distribution, loan, or other applicable forms completed by the Plan participants.

Contribution Transfers

Financial proof of employee contributions deducted from participants earnings.

Financial proof of employer matching contributions for participants.

Transfer and deposit of employee contributions and matching contributions to the official investment manager.

Documentation on Plan mergers, acquisitions, and divestitures.

Process Reviews

Plan Sponsor internal processes and controls for determining, initial and on-going eligibility, vesting, claims processing, inbound/outbound rollovers, appeals, loan approval, QDOR’s, partial, hardship, and final distribution.

Plan Sponsor internal processes and controls for enrollment, dis-enrollment, indicative and demographic changes, initial and on-going fund allocations, default processes.

Plan Sponsor internal processes and controls for fund transfers, participant reporting, and access to accounts, authorizations for Plan and participants changes.

Census Data

A data file containing employee indicative, demographic, plan participation information for the Plan Sponsor’s employees.

Auditor Plan Sponsor Communications

Prior to an audit, the auditor selected by the Plan Sponsor will contact the Plan Sponsor. Depending on how the Plan Sponsor-Auditor relationship is managed, the initial and on-going contact may be through the Plan Sponsor’s Chief Financial Officer, Chief Legal Officer, Chief Human Resources Officer or other designated key management person. As part of this communications management process, the Plan Sponsor and auditor should execute an engagement letter (required by SAS 108), representation letter, and an understanding of internal communication’s control. At this initial contact, a preliminary date is set for the on-site visits of the auditor. Included in the initial contact communications is a list of audit items requested. Some auditors will want the employee census file prior to the initial on site visit; remember any transmission of employee census data must be conducted in a highly secure manner.

Once the auditor has the employee census data, the auditor will select a limited number of “test” cases to sample, usually 5-10 per test category. These categories include both positive and negative (as applicable) outcomes for eligibility determination, enrollment, participation, investment allocations, vesting/service credit accrual, loans, verification of beginning/ending account balances, and distributions. The auditor will want to examine copies of documents confirming age, dates of hire, termination, enrollment, allocation changes, loans, distributions, and other events significant to the Plan and participant actions. The auditor will use this information to contact, usually through the Plan Sponsor, the sampled participants and seek verification as whether or not these were participant directed initiatives and/or the information is correct.

Most auditors are very professional, well educated, and trained individuals. However, all communications between the auditor and Plan Sponsor should be conducted with the highest degree of professionalism on both sides and well documented. While the Plan Sponsor employs the auditor, they are “independent” and is there for the benefit of the plan participants not the Plan Sponsor. Since the Plan Sponsor retains many auditors for several years, it pays to maintain a good working relationship to ensure a smooth audit in future years.

Once the audit is complete, the auditor renders their “opinion”, either the plan meets the audit standards and thus received an unqualified or not. It is rare, but possible that the Plan could fail an audit, if this is the case, the Plan must correct the deficiencies immediately, and the auditor should identify the deficiencies and provide “limited” guidance on corrective measures to be taken. Provided the Plan Sponsor, fund manager, investment manager, record keeper or other party in interest makes the necessary corrections, the auditor may be able to deliver an unqualified audit.

Health Care Penalties Cheaper Than Cost of Coverage

Tuesday, May 18, 2010

The Health Care and Education Reconciliation Act of 2010 amended the Patient Protection and Affordable Care Act to increase the employer non-compliance penalty from $750 to $2,000 per employee. In addition, there is a $3,000 per employee penalty if the employer’s sponsored health care plan is deemed “unaffordable” under the Act. Thus, there is growing concern that at approximately 50% to 75% of the cost of individual health care, some employers will be tempted to drop group coverage and simply pay the fine. That being the case, large numbers of previously insured individuals would then be forced out of employer sponsored group plans and required to obtain coverage through the state Exchanges and possibly overwhelm the Exchanges with new members. This would result in two possible outcomes: 1) the Exchanges would be obligated to cover a potentially large and unanticipated number of members with almost certainly negative economic results; even with the collected penalties and premiums, 2) a de facto public plan would be created, which presumably was not the intent of the Act?

In an article posted on May 5, 2010 by the Cable News Network, www.cnnmoney.com, AT&T, Verizon, Caterpillar and Deere reportedly discussed the likelihood of discontinuing employee health care plans for their employees and merely paying the penalty. On April 27, 2010, Mercer, the international consulting firm reported that as many as “A third of employers may be penalized for health coverage deemed 'unaffordable' “. As reported by Rick Foster, the chief actuary of the Centers for Medicare and Medicaid Services (CMS) the new healthcare law could cost $828 billion over the ten years while saving while saving $577 billion. In the same report, the CMS raised warnings about the impact of healthcare reform and the possibility some employers would drop healthcare coverage.  In a May 16, 2010 article by Suzanne Hoholik of The Columbus Dispatch titled Federal Overhaul; Health Penalty Seen As Too Low, reports that the initial analysis by the Congressional Budget Office failed to consider large-scale reductions in the health care plans offered by employers. Faced with the proposition of increasing coverage offered or paying penalties, many organizations are likely to opt for the penalties.

While there are numerous reasons for employers to continue to offer health care based on the competitive nature of business, one comparable is the change over from defined benefit pension plans to defined contribution plans which occurred in the 1980’s and 1990’s. With the advent of defined contribution plans [401(k), 403(b), 457(h)] employers discovered such plans were less costly, easier to administer, and many employees preferred them. Therefore, as competitors switched from one plan type to another, employers could argue they were only matching the actions of the competitive marketplace. The same could be said of health care under the Act, as competitors drop coverage and pay the penalty, it then becomes easier for the next employer to do likewise. Over time, employer sponsored health care plans will go the way of traditional pension plans. Maybe not extinct, but certainly on the endangered list, … i.e., health care on life support.

Employee Life Stage and Total Compensation

Monday, May 17, 2010

In an April 2010 WorldatWork Research paper titled, “Beyond Compensation: How Employees Prioritize Total Rewards at Various Life Stages”, authored by Margaret Leaf and Rebecca Ryan of Next Generation Consulting and published by WorldatWork, the two authors explore the relationship between an employee’s life stage and total rewards. The authors’ premise is that with a highly diverse workforce, some form of “customized rewards arrangements seems inevitable.” After all, in a society where most things come in a multitude of favors, colors, sizes, options, and configurations, why shouldn’t an employee be able to structure their individual rewards to fit their current life stage? Certainly, it must be obvious that a new college graduate does not have the same needs as a 40 something old in mid career. The authors’ study looked at 11 factors they perceive as being significantly related to the employee's life stage as well as their social status, those factors included:

1. Age ........................................................ 2. Years of experience in current field

3. Years of experience in organization ...... 4. Number and age of children

5. Number and age of adult dependents .... 6. Marital status

7. Supervisor status ..................................... 8. Employment status of spouse/partner

9. Gender .................................................. 10. Race/ethnicity

11. Income

One finding that did not surprise me, women with young children under the age of 6, traded compensation, benefits, career development, and recognition for flexibility in their work life when compared to all other members of the survey study group, … i.e., women with no children, women with children over age 6, and men with/without children. Although we live in an enlightened age, when it comes to child rearing, mothers are still the primary care giver for young children.

So why is there not a higher degree of “customized rewards arrangements” in the workplace? Many organizations have adopted a level of flexibility in health, welfare, and disability benefit options, including a whole array of voluntary benefits. Most mid-sized and larger organization have HR systems sophisticated enough to handle flexible pay and work schedules. The pervasiveness of the Web permits virtually anyone with Internet access to connect with their employer’s business networks with security. Is there still some social stigma associated with working from home and tele-commuting?

My own experience is very telling. While at a large insurance employer, an organizational initiative was undertaken to test the feasibility of tele-commuting for claims processors. The feasibility study revealed that supervisors had a level of dis-comfort with not be able to physical observe their employees at work. Although the production statistics told a different story, supervisors perceived that claims were not being processed. Only through extensive change-management was this perception altered.

In an atmosphere of cutbacks, lay-offs, frozen 401(k) plans, and higher health insurance premiums, employers need to recognize that employees can be retained through a number of non-monetary rewards. Even in a weak economy, good employees have options. Some of those options may include looking at employers who are willing to host flexible pay and work arrangements to accommodate the employee’s life stage. With 50% of the women surveyed in the “Beyond Compensation” study reporting they were dissatisfied with their employer’s work-life flexibility, employers are at risk of losing significant human capital.

Margaret Leaf and Rebecca Ryan may be contacted at Next Generation Consulting, 211 S. Paterson Street, Suite 280, Madison, WI 53703, Phone: 888.922.9596,

Traditional Time off vs. Paid Time Off Banks

As the manager of employee benefit plans, I frequently field questions from employees and managers about time off. Usually the questions revolve around more time off or specific days off to observe some special holiday. Recently, the WorldatWork, an international organization of HR professionals focused on employee compensation, benefits, work-life issues, and total rewards, published a survey reviewing traditional vs. paid time off systems.


Among the various aspects of traditional vs. paid time off systems reported in the survey summary was the decrease in traditional time off systems and the increase in paid time off (PTO) systems from 2002 to the survey report date in February 2010. It begs the question of what factors are driving this decrease. To answer that question we must understand the fundamental differences in the two approaches to managing employee paid time off.


Total Paid Time Off: The total amount of paid time off under both traditional and PTO systems is fixed, although PTO systems often have less total time than their traditional counter parts.


Accrual by Service Length: Both approaches usually allow for accrual of available time based on length of service with the employer.


Vacation, Holidays, Sick, and Other Time Off: Traditional systems break the accrued time up into separate categories for each distinct type of time off whereas PTO usually combines all paid time off available into a single block of time.


Recordkeeping/Tracking: Clearly, PTO with its single block of time is much easier to manage, track, and account for rather than the separate and individual categories of traditional plans.


Verification of Use: Traditional time off systems often require managers to obtain verification of sick time or bereavement leave usage beyond 3-5 days. PTO systems usually are not as concerned with how the time is used. However, managers may still be concerned with “excessive” usage during heavy work periods.


Carry Over to Following Period: The ability to carry over time from one period to another does often vary by the employer and may even vary by workgroup or sub-division within the employer.


Restrictions on Use: Both systems may impose restrictions on when and how time is used based on the employer’s seasonal work loads or other factors such as prior approval, exclusive of unforeseen illness, accidents, deaths or other unplanned events.


From the employee’s point of view, PTO allows for a significantly higher degree of personal employee self-direction. This is particularly true when it comes to holidays. While most national employers recognize a core set of holidays; New Year's Day, Memorial Day, Independence Day, Labor Day, Veteran's Day, Thanksgiving Day, and Christmas Day, regional and local variations do occur. Consider Pioneer Day in Utah or Patriot’s Day in Massachusetts. PTO systems allow for variations in holidays without the necessary recordkeeping and tracking of a traditional fixed holiday schedules.


However, the fundamental driving force is the same force that has lead us from defined benefit pension plans to defined contribution style pans, from a fixed set of benefit plans to flexible benefit arrangements, and from one shoe fits all approaches to variable work schedules and arrangements. We have seen this same change in the creation of variable compensation arrangements rather than a single bonus plan for all. Moreover, that force is the desire of most employees to have some control over how, where, and when they work, how they are paid, and what levels of benefits are available to them. It has been shown that shoppers find it more desirable and will actual buy more of a product if that product is available to them in bulk rather than in some pre-measured, pre-packaged container.


Certainly, PTO banks may be significantly less cumbersome to maintain, however, my own employee satisfaction surveys support the idea that it is the employee’s desire for control, self-direction, and participation in decision making, which contributes to how time off is delivered to the employee. Even when PTO banks provide less total time off, employees are more receptive to the “flexibility” of PTO than when time off is carved up into vacation, sick, holidays, and other fixed categories.