Retirement plans are the benefits that get the most attention in a corporate transaction, and rightly so. But health and welfare plans have their own thorns and pitfalls that should be evaluated and considered when drafting a purchase agreement and performing due diligence. When engaging in a corporate transaction where there are health and welfare benefits involved, it is important to keep in mind some key issues.
Stock Sale or Asset Sale?
The nature of the transaction will affect the terms desired in the purchase agreement as well as the range of due diligence. In a stock sale, all existing company liabilities will transfer over to the buyer, whereas in an asset sale, liabilities will generally only be assumed by the buyer to the extent the parties agree to in the purchase agreement. This article compares a stock sale with an asset sale from both sides—the seller’s and the buyer’s.
The Purchase Agreement
In a stock sale, a buyer will want to include detailed representations and warranties requiring full disclosure of benefit plans, including all health and welfare plans, and assurances regarding plan compliance and provisions for limited liability for ongoing benefits following the close of the transaction. In contrast, a seller will generally want less detailed representations and warranties and the inclusion of qualifiers such as materiality and knowledge to soften the potential for a case for a breach of the agreement.
In an asset sale, because only specific assets are being sold, the buyer will generally be willing to accept more general benefits representations and warranties, but will want language in the agreement to explicitly state that they are not taking on responsibility for any benefit plans, or only for certain benefit plans.
In addition, the terms in the purchase agreement are affected by the parties’ intentions for the plans. This is discussed in more detail below, but it should be noted that issues like termination of plans, continuation of plans, responsibility for continuation coverage, or a covenant to offer employees hired by the buyer comparable benefits, all may need to be negotiated, and language providing for these terms memorialized, in the purchase agreement.
Due Diligence
The desired depth of due diligence will vary. Obviously, a buyer in a stock sale is very interested in performing extensive due diligence in order to understand what liabilities they may be taking on, and perhaps more limited diligence in an asset sale where benefits are not being assumed by the buyer. A seller should also be interested in some level of due diligence, at least enough to support any representations they are making regarding benefits in the purchase agreement.
Determine the Universe of Plans
The first step in determining what terms should be in the purchase agreement and what to review in the due diligence process is to identify what plans the seller maintains. While the seller is usually required to disclose all of its benefit plans, written or unwritten, as a part of the purchase agreement, it is a best practice to verify this through a review of documents such as employee handbooks, benefits booklets, wrap plan documents, and open enrollment materials.
Health and welfare plans come in many shapes and sizes. For example:
- Group health plans such as medical, dental, and vision coverage
- Health reimbursement arrangements (“HRA”)
- Health savings accounts (“HSA”)
- Disability plans such as long-term and short-term disability (“LTD” and “STD” plans)
- Employee assistance plans (“EAP”) (also sometimes a group health plan)
- Cafeteria plans offering benefits like premium pre-tax payment and flexible spending accounts for medical care and dependent care expenses
- Basic and supplemental life insurance
- Wellness programs
- Telemedicine (also a group health plan)
- Legal services
- Transportation programs
- Retiree health
- Multiple employer welfare arrangements (“MEWA”)
- Voluntary employee benefit arrangements (“VEBA”)
Some H&W Benefits Need Special Scrutiny
Not all health and welfare benefits are created equal. Some benefits need more scrutiny to determine the absence of significant problems. Below is a selection of some of the benefit issues that deserve a closer look:
- Medical Coverage. Group health plans have many special requirements in addition to the more general ERISA and Code provisions that apply to all health and welfare plans. For example:
- Are the medical plans in compliance with the Affordable Care Act (ACA) mandates for offers of minimum essential coverage and reporting to the IRS and individuals? Penalties for noncompliance can be very expensive.
- Is continuation coverage under COBRA being administered properly, including required notices? Is COBRA being offered and administered for all health plans subject to COBRA? Don’t forget about health flexible spending accounts, employee assistance programs, and telemedicine.
- If a medical plan is self-insured, is nondiscrimination testing being performed and passed? Is there adequate plan documentation? Is there stop-loss coverage in place?
- If there is a health reimbursement arrangement (HRA), does it meet the requirements under the ACA? Has it met nondiscrimination requirements?
- Is there is retiree health coverage? If so, can this coverage be terminated or is there some basis for a claim that retirees have a vested interest in the coverage that cannot be terminated?
- Multiple Employer Welfare Arrangement (MEWA). Health and welfare plans that are offered to employees of unrelated employers have special requirements:
- Is the seller currently offering its employees a MEWA? If so, have federal and state requirements for MEWAs been met? Note that each state has different requirements.
- Will a MEWA will be created as a result of the deal? Deals innately change controlled groups and MEWAs can be created inadvertently.
- If there is a MEWA, is it, in whole or in part, self-insured? If so, then state insurance laws may apply.
- Cafeteria Plans. If employees are permitted to pay their portion of premiums on a pre-tax basis, is there a cafeteria plan in place? These plans are also called section 125 plans or flexible benefit plans, and may be pre-tax premium payment only plans, or may include other benefits such as flexible spending accounts.
- Is there a signed plan document? If it is a premium only plan, which is not subject to ERISA, the IRS requires that a plan document be in place.
- Is annual nondiscrimination testing being performed and passed?
- If there is a health flexible spending account, does it comply with ERISA, HIPAA, and the ACA?
What’s the Plan for the Plans?
An important consideration regarding health and welfare plans in an M&A transaction is what is intended after the transaction has closed. There are generally three options:
- Terminate the health and welfare plan(s). Depending on the structure of the deal, and other facts and circumstances, this may require that continuation coverage be offered under the buyer’s plan for “M&A Qualified Beneficiaries.”
- Continue the health and welfare plan(s). This will require looking at insurance contracts (can they be assumed by the buyer?), and services agreements (can these be transitioned to the buyer?).
- Spin-off the health and welfare benefits of employees who will be hired by the buyer. This will require special consideration if there are flexible spending accounts in the seller’s plan that will be spun off into a new plan or the buyer’s plan.
Health and welfare plans should never be underestimated in a transaction. Experienced human resources personnel or benefits counsel should perform an appropriate degree of due diligence. In addition, experienced benefits counsel, rather than corporate counsel, should review the purchase agreement to ensure that the representations and warranties address the specific potential liabilities and accurately set out the intentions of the parties.