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Challenges in Implementing California Court's Decision Granting Same-Sex Couples Right to Marry

One aspect of the recent landmark California Supreme Court decision granting same-sex couples the right to marry that has received little attention from legal experts thus far has been its impact upon employers and their employment policies. In re Marriage Cases, No. S147999 (Cal. May 5, 2008). Absent a stay of the decision pending a possible ballot initiative to amend the state Constitution in November 2008, employers probably can expect newly married same-sex couples to seek treatment equal to that accorded their heterosexual co-workers, including spousal benefits, when the decision takes effect. It does so on June 14, 2008, thirty days after it was issued. Unless a stay is issued, employers should not await the outcome of a possible ballot initiative before complying with the decision’s requirements, since doing so would risk sexual orientation discrimination claims. We address below some of the more common inquiries employers should expect once same-sex couples marry.

Benefits Provided Under State Law or Employer Policy

Whether employee benefits and other perquisites of employment will be available to same-sex spouses will depend upon whether the benefit at issue is granted under the authority of federal law, state law or employer policy. Benefits provided under state law or employer policy will have to be provided equally to same-sex spouses as is provided to spouses of the opposite sex.

The federal Employee Retirement Income Security Act (ERISA) generally preempts state laws relating to retirement plans and health and welfare plans. However, a special exception to this permits a state to regulate insurance (including HMOs) and benefits provided through insurance. Thus, a state can mandate that an insurance policy provide certain coverages or benefits. An employer who buys the regulated policy indirectly becomes contractually bound to provide the state-mandated coverages and benefits. For example, AB 2208 (the California Insurance Equality Act) already requires that an HMO or insurance policy covering spouses also cover registered domestic partners to the same extent. Accordingly, an employer who purchases an insurance policy issued in California becomes contractually bound to cover same-sex spouses and domestic partners to the same extent it covers opposite-sex spouses.

Examples of California state law obligations applicable to employee spouses include certain leaves of absence, such as leave under the California Family Rights Act, sick leave to attend to a spouse under Labor Code Section 233, time off to accompany a spouse who is the victim of a crime to legal proceedings related to the crime, and the like. While these rights also extend under California law to registered domestic partners, employers should expect greater use of these state-mandated benefits since many experts believe the number of same-sex couples who will marry will exceed the numbers who have taken advantage of the registered domestic partner status.

Employer policies and practices applicable to spouses also must take into account the expanded right to marry. Failure to provide spousal benefits provided under employer policies to same-sex couples would likely violate the Fair Employment and Housing Act’s prohibition against discrimination on the basis of sexual orientation. Examples of such policies include employee discount programs, leaves of absence beyond that legally required under federal or state law, paying for travel for the spouse when the employee travels for business, employer-provided childcare benefits and invitations to work-related functions, such as business dinners.

Federal Law Issues

Prior to the enactment of the Defense of Marriage Act (DOMA), federal tax laws determined marital status of individuals under state law. Effective September 21, 1996, the DOMA uniformly defines "marriage" and "spouse" for purposes of federal law as follows:

[T]he word "marriage" means only a legal union between one man and one woman as husband and wife, and the word "spouse" refers only to a person of the opposite sex who is a husband or a wife.

Thus, a same-sex spouse under California law, or a same-sex domestic partner under any other state law, cannot qualify as a spouse under any federal laws. This means that if any federal law grants spousal rights, as is the case for retirement plans subject to the Internal Revenue Code (Code) and ERISA, those rights will not apply to a same-sex spouse or same-sex domestic partner, regardless of the person’s status under state law. However, it is important to note that the DOMA does not prohibit an employer from voluntarily extending coverages and benefits to same-sex spouses or domestic partners.

DOMA also provides that states do not have to recognize same-sex marriages performed in other states. The majority of states have laws similar to DOMA that restrict marriage to one man and one woman. However, employers should check the law in their particular state(s) of operation; because California does not have a residency requirement for marriages, many observers expect out-of-state same-sex couples to travel to California to wed once the state Supreme Court’s decision becomes effective.

Federal Tax Issues Regarding Benefits

The IRS has not provided any definitive guidance in the area of benefits for same-sex spouses or domestic partners. It has, however, issued several private letter rulings dealing with the taxation of domestic partner coverage. While these rulings have no precedential value, they do provide insight into the IRS’s current analysis of tax issues relating to same-sex spouse and domestic partner benefits.

The treatment of benefits provided to same-sex spouses and domestic partners under the Code differs from that of benefits provided opposite-sex spouses of employees and their dependents, since same-sex spouses or domestic partners generally do not fall within the definition of "spouse" or "dependent" under the Code. This is also true for the treatment of benefits provided to dependents of domestic partners.

• Federal Income Tax

Section 106 of the Code provides for the exclusion from gross income of employer-provided coverage under an accident or health plan for the employee and the employee’s opposite-sex spouse and dependents. Under Section 105(b) of the Code, reimbursements for medical expenses from an employer-sponsored plan are excludable from an employee's gross income, if such expenses relate to medical care of the employee, the employee's dependents, or opposite-sex spouse. Section 104 of the Code also excludes certain medical benefit reimbursements on a basis that is separate from Section 105 of the Code.

• Definition of Dependent

Under Section 152 of the Code, a dependent is an individual (other than an opposite-sex spouse) who has the same principal place of abode as the employee, is a member of the employee's household, and more than one-half of whose support was furnished for the year by the employee. Many domestic partners and their dependents as a functional matter do not meet this definition with respect to the employee, and thus the favorable tax treatment under Code sections 104, 105, and 106 are unavailable.

• Cost of Coverage is Taxable Income for Employee

If the employee’s same-sex spouse or domestic partner does not fall within the definition of dependent for income tax purposes, the employee will be treated as having taxable compensation equal to the difference between the fair market value of the coverage for the same-sex spouse or domestic partner and the amount, if any, paid by the employee for such coverage. This taxable compensation is wages reportable on the employee’s Form W-2 and is subject to income tax and social security tax withholding.

• Benefits Paid are Excluded from Gross Income

Unless a same-sex spouse or domestic partner is an employee’s dependent, as defined in the Code, the exclusion of health expense reimbursements under Section 105(b) of the Code is not available.

Section 104(a)(3) of the Code, however, provides for the exclusion from gross income of amounts received through accident or health insurance for personal injuries or sickness, to the extent the employee has paid the premiums for such coverage or such amount is not paid by the employer. Because the employee is taxed on the value of the same-sex spouse or domestic partner coverage, the employee is considered to have paid for such coverage. Therefore, to the extent that the value of coverage is includible in the gross income of the employee, the employee’s gross income, or that of the same-sex spouse or domestic partner, will not include any amount received as payment or reimbursement of benefits under the plan. In the context of a self-funded medical plan, this general rule is subject to certain complexities, which should be carefully evaluated, if coverage under a self-funded plan will be offered.

Employee and Spousal Benefits Issues Under Federal Laws

• Retirement Plans

As mentioned above, state laws regulating benefits of ERISA?covered plans are generally preempted by federal law. Because of ERISA and the DOMA, the California ruling and other state laws and local actions have no impact on retirement plans subject to ERISA.

• Self-Insured Welfare Plans

Because of ERISA and the DOMA, the California ruling and other state laws and local actions have no impact on retirement plans subject to ERISA.

• Benefits Provided Through Section 125 Plans

A cafeteria plan under Section 125 of the Code is a written benefit plan maintained by the employer under which a participant may elect benefits from either cash or qualified benefits. In essence, Section 125 provides employers the means for employees to use pre-tax dollars to pay medical expenses incurred for themselves, their opposite-sex spouses and other legally recognized dependents.

The favorable tax treatment under Section 125 will not be available unless the same-sex spouse or domestic partner meets the definitional requirements of a dependent in the Code. Non-dependent same-sex spouses and domestic partners may be offered coverage through a cafeteria plan as a taxable benefit.

Nevertheless, because of the difference in the tax status of the benefits, the option of purchasing group health coverage through a cafeteria plan for same-sex spouses or domestic partners should be offered separately from the option of health plan coverage for employees, their opposite-sex spouses and legally recognized dependents.

• Health Savings Account (HSA)

A HSA is a tax-advantaged medical savings account available to individuals covered by a High Deductible Health Plan (HDHP). Unless a same-sex spouse or domestic partner is an employee’s dependent, as defined in the Code, his or her expenses cannot be paid out of the account holder’s HSA on a tax-free basis.

• Health Reimbursement Arrangement (HRA)

A HRA is a medical reimbursement plan funded solely by employer contributions. Employees are reimbursed tax-free for qualified medical expenses up to a maximum dollar amount for a coverage period. Pursuant to IRS Revenue Ruling 2006-36, permitting reimbursement of medical expenses for a non-spouse or non-dependent beneficiary would result in all the reimbursements from the HRA, even those to the employee, to be included in the employee’s gross income.

• Life Insurance and Accidental Death & Dismemberment

The value of any employer-paid term life insurance or AD&D coverage provided to a same-sex spouse or domestic partner is included in the employee’s taxable income.

• COBRA

The Consolidated Omnibus Budget Reconciliation Act (COBRA) gives workers and their families who lose their group health coverage the right to choose to continue group health benefits, at their own cost, for limited periods of time under certain circumstances, such as job loss, reduction in the hours worked, and other life events.

Under federal law, COBRA does not apply to same-sex spouses or domestic partners even if the spouse or partner qualifies as a dependent. "Qualified beneficiaries" under COBRA are limited to employees, spouses, and dependent children (not dependents generally).

However, some states have laws that require insured plans to offer COBRA-like coverage to same-sex spouses and domestic partners.

• State Law Discrimination Claims Preempted

Regardless of whether an employer provides welfare benefits through insurance or self-insures the coverage, ERISA preempts any state law discrimination claims based on the employer’s decision to extend coverage only to opposite-sex couples or to provide same-sex coverage only at specific locations.

Defining Plan Terms

Employers should review the terms of their employee benefit plans and adopt a specific definition of "spouse" to avoid any interpretation issues.

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Employers are advised to review their benefit programs, policies and practices in advance of the decision’s effective date to determine its impact on their operations. Employers may also want to evaluate whether granting benefits to same-sex married couples where not legally required is advisable from an employee relations or administrative perspective. Finally, employers should anticipate employee inquiries about these issues and develop communications strategies for responding to them. Jackson Lewis can assist in reviewing benefit plans and policies as well as providing guidance in responding to employee inquiries regarding these issues.