[Federal Register Volume 81, Number 120 (Wednesday, June 22, 2016)]
[Rules and Regulations]
[Pages 40518-40521]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-14784]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9772]
RIN 1545-BN15


Modification of Treatment of Certain Health Organizations

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations that provide guidance 
to Blue Cross and Blue Shield organizations, and certain other 
organizations, on computing and applying the medical loss ratio and the 
consequences for not meeting the medical loss ratio threshold. The 
final regulations reflect the enactment of a technical correction to 
section 833(c)(5) of the Internal Revenue Code by the Consolidated and 
Further Continuing Appropriations Act of 2015. The final regulations 
affect Blue Cross and Blue Shield organizations, and certain other 
organizations involved in providing health insurance.

DATES: Effective Date: These regulations are effective on June 22, 
2016.
    Applicability Date: For the date of applicability, see Sec.  1.833-
1(e).

FOR FUTHER INFORMATION CONTACT: Rebecca L. Baxter, at (202) 317-6995 
(not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    This Treasury decision contains final regulations that amend 26 CFR 
part 1 under section 833 of the Internal Revenue Code (the Code). 
Section 833(a) provides that Blue Cross and Blue Shield organizations, 
and certain other organizations involved in providing health insurance 
as described in section 833(c), are entitled to: (1) Treatment as stock 
insurance companies for purposes of sections 831 through 835 (related 
to taxation of non-life insurance companies generally); (2) a special 
deduction determined under section 833(b); and (3) computation of 
unearned premium reserves under section 832(b)(4) based on 100 percent, 
and not 80 percent, of unearned premiums for purposes of determining 
``insurance company taxable income'' under section 832.
    Section 833(c)(5) was added to the Code by section 9016 of the 
Patient Protection and Affordable Care Act (Pub. L. 111-148, 124 Stat. 
119) (the Affordable Care Act), effective for taxable years beginning 
after December 31, 2009. Section 833(c)(5), as enacted by the 
Affordable Care Act, provided that section 833 did not apply to any 
organization unless the organization's medical loss ratio (MLR) for the 
taxable year was at least 85 percent. For purposes of section 833, an 
organization's MLR was its percentage of total premium revenue expended 
on reimbursement for clinical services provided to enrollees under its 
policies during such taxable year (as reported under section 2718 of 
the Public Health Service Act (42 U.S.C. 300gg-18)).
    Section 2718 of the Public Health Service Act (PHSA) was added by 
section 1001 and amended by section 10101 of the Affordable Care Act. 
Section 2718 of the PHSA is administered by the Department of Health 
and Human Services. Section 2718(a) of the PHSA requires a health 
insurance issuer to submit a report for each plan year to the Secretary 
of the Department of Health and Human Services concerning the 
percentage of total premium revenue, after accounting for collections 
or receipts for risk adjustment and risk corridors and payments of 
reinsurance, that the issuer expends: (1) On reimbursement for clinical 
services provided to enrollees under such coverage; (2) for activities 
that improve health care quality; and (3) on all other non-claims 
costs, excluding federal and state taxes and licensing or regulatory 
fees.
    Section 2718(b) of the PHSA requires that a health insurance issuer 
offering group or individual health insurance coverage, with respect to 
each plan year, provide an annual rebate to each enrollee under such 
coverage, on a pro rata basis, if the ratio of the amount of the 
premium revenue the issuer expends on costs for reimbursement for 
clinical services provided to enrollees under such coverage and for 
activities that improve health care quality to the total amount of 
premium revenue (excluding federal and state taxes and licensing or 
regulatory fees and after accounting for payments or receipts for risk 
adjustment, risk corridors, and reinsurance under sections 1341, 1342, 
and 1343 of the Affordable Care Act (42 U.S.C. 18061, 18062, and 
18063)) for the plan year is less than a prescribed percentage. Section 
2718(b)(1)(B)(ii) of the PHSA provides that beginning on January 1, 
2014, the medical loss ratio computed under section 2718(b) of the PHSA 
shall be based on expenses and premium revenues for each of the 
previous three years of the plan.
    The Department of Health and Human Services published in the 
Federal Register (75 FR 74864) an interim final rule under section 2718 
of the PHSA on December 1, 2010, an interim final rule and final rule 
on December 7, 2011 (76 FR 76596 and 76574), and a final rule on May 
16, 2012 (77 FR 28790). These rules implementing section 2718 of the 
PHSA are codified at 45 CFR part 158 (HHS Regulations).
    On December 6, 2010, the Treasury Department and the IRS published 
Notice 2010-79 (2010-49 I.R.B. 809), which provided interim guidance 
and transitional relief to organizations under section 833(c)(5). The 
interim guidance applied to an organization's first taxable year 
beginning after December 31, 2009.
    The interim guidance provided that for purposes of determining 
whether an organization's percentage of total premium revenue expended 
on reimbursement for clinical services

[[Page 40519]]

provided to enrollees was at least 85 percent (and thus satisfied the 
requirement of section 833(c)(5)), organizations were required to use 
the definition of ``reimbursement for clinical services provided to 
enrollees'' set forth in the HHS Regulations. In addition, the interim 
guidance provided that for purposes of determining whether the 85-
percent requirement of section 833(c)(5) was satisfied, the IRS would 
not challenge the inclusion of amounts expended for ``activities that 
improve health care quality'' as described in the HHS Regulations.
    Notice 2010-79 also stated that the consequences for an 
organization with an MLR of less than 85 percent (an insufficient MLR) 
were as follows: (1) The organization would not be taxable as a stock 
insurance company by reason of section 833(a)(1) (but may have been 
taxable as an insurance company if it otherwise met the requirements of 
section 831(c)); (2) the organization would not be allowed the special 
deduction set forth in section 833(b); and (3) the organization would 
only take into account 80 percent, rather than 100 percent, of its 
unearned premiums for purposes of computing premiums earned on 
insurance contracts under section 832(b)(4). However, Notice 2010-79 
provided that solely for the first taxable year beginning after 
December 31, 2009, the IRS would not treat an organization as losing 
its status as a stock insurance company by reason of section 833(c)(5) 
provided the following conditions were met: (1) The organization was 
described in section 833(c) in the immediately preceding taxable year; 
(2) the organization would have been taxed as a stock insurance company 
for the current taxable year but for the enactment of section 
833(c)(5); and (3) the organization would have met the requirements of 
section 831(c) to be taxed as an insurance company for the current 
taxable year but for its activities in the administration, adjustment, 
or settlement of claims under cost-plus or administrative services-only 
contracts.
    On July 5, 2011, the Treasury Department and the IRS published 
Notice 2011-51 (2011-27 I.R.B. 36) extending the interim guidance and 
transitional relief provided in Notice 2010-79 to an organization's 
first taxable year beginning after December 31, 2010. On June 11, 2012, 
the Treasury Department and the IRS published Notice 2012-37 (2012-24 
I.R.B. 1014) extending the interim guidance and transitional relief 
provided in Notice 2010-79 and Notice 2011-51 through an organization's 
first taxable year beginning after December 31, 2012.
    On May 13, 2013, the Treasury Department and the IRS published in 
the Federal Register (78 FR 27873) a notice of proposed rulemaking 
(REG-126633-12) addressing the computation of an organization's MLR for 
purposes of section 833(c)(5) and the consequences of non-application 
of section 833 if an organization had an insufficient MLR. The proposed 
regulations provided that the numerator of an organization's MLR is the 
total premium revenue expended on ``reimbursement for clinical services 
provided to enrollees'' under its policies for the taxable year, but 
does not include amounts expended for ``activities that improve health 
care quality.'' In addition, the Treasury Department and the IRS 
concluded that, for administrative convenience and to be consistent 
with the MLR calculation under section 2718(b)(1)(B)(ii) of the PHSA, 
it was appropriate to compute the MLR for a taxable year under section 
833(c)(5) using the same three-year period used under section 2718(b) 
of the PHSA. Therefore, the proposed regulations provided that amounts 
used for purposes of section 833(c)(5) for each taxable year should be 
determined based upon amounts reported under section 2718 of the PHSA 
for that taxable year and the two preceding taxable years, subject to 
the same adjustments that apply for purposes of the PHSA. The proposed 
regulations also provided that if an organization has an insufficient 
MLR, then section 833(a) does not apply to that organization.
    On January 7, 2014, the Treasury Department and the IRS published 
in the Federal Register (79 FR 755) final regulations (TD 9651) 
adopting the provisions of the proposed regulations with certain 
modifications. These modifications included transition rules to phase 
in the same three-year period used under section 2718(b) of the PHSA to 
compute the MLR for a taxable year. Accordingly, the final regulations 
provide that for the first taxable year beginning after December 31, 
2013, an organization's MLR is computed on a one-year basis. For the 
first taxable year beginning after December 31, 2014, an organization's 
MLR is computed on a two-year basis. Finally, for the first taxable 
year beginning after December 31, 2015, and for all succeeding taxable 
years, the final regulations provide that an organization's MLR is 
determined based on amounts reported under section 2718 of the PHSA for 
that taxable year and the two preceding taxable years, subject to the 
same adjustments that apply for purposes of section 2718 of the PHSA. 
The final regulations apply to taxable years beginning after December 
31, 2013.
    Congress subsequently passed the Consolidated and Further 
Continuing Appropriations Act, 2015 (Pub. L. 113-235, 128 Stat. 2130) 
(the Appropriations Act), which was signed into law by the President on 
December 16, 2014. Section 102 of Division N of the Appropriations Act 
made a technical correction to section 833(c)(5) (the Technical 
Correction). The Technical Correction provides that in calculating its 
MLR numerator, an organization includes both the cost of reimbursement 
for clinical services and amounts expended for activities that improve 
health care quality. In addition, the Technical Correction provides 
that the consequences for not meeting the MLR threshold are only that 
section 833(a)(2) and (3) do not apply. Therefore, an organization with 
an insufficient MLR is treated as if it were a stock insurance company 
under section 833(a)(1). The Technical Correction applies to taxable 
years beginning after December 31, 2009.

Explanation of Provisions

    These final regulations restate Sec.  1.833-1 of the Income Tax 
Regulations (26 CFR part 1) and incorporate the Technical Correction. 
As explained in this preamble, the Technical Correction, in effect, 
retroactively amended the rules in the existing final regulations to 
determine the MLR and the consequences of an insufficient MLR. In order 
to avoid any confusion caused by the effect of the Technical Correction 
on the existing final regulations, the Treasury Department and the IRS 
are publishing the existing final regulations, as revised by the 
Technical Correction, in their entirety in this Treasury decision.

1. Determining the MLR

    Section 1.833-1 of the Income Tax Regulations generally provides 
that an organization's MLR with respect to a taxable year is the ratio, 
expressed as a percentage, of the organization's MLR numerator to its 
MLR denominator. Prior to the Technical Correction, the existing final 
regulations only included in the MLR numerator an organization's total 
premium revenue expended on reimbursement for clinical services 
provided to enrollees. Consistent with the Technical Correction, Sec.  
1.833-1(c)(1)(i) of these final regulations describes an organization's 
MLR numerator as the total premium revenue the organization expended on 
reimbursement for clinical services and activities that improve health 
care quality provided to enrollees under its

[[Page 40520]]

policies for the taxable year. For purposes of section 833(c)(5), these 
final regulations define the term ``activities that improve health care 
quality'' to have the same meaning as the term has in section 2718 of 
the PHSA and the regulations issued under that section (see 45 CFR 
158.150). In addition, consistent with the Technical Correction, the 
transition rules for computation of the MLR in Sec.  1.833-1(c)(2)(i) 
and (ii) of these final regulations include the premium revenue 
expended on activities that improve health care quality.

2. Consequences of an Insufficient MLR

    Consistent with the Technical Correction, these final regulations 
provide that the consequences for an organization described in section 
833(c) that has an MLR of less than 85 percent are the following: (1) 
The organization is not allowed the special deduction set forth in 
section 833(b); and (2) it must take into account 80 percent, rather 
than 100 percent, of its unearned premiums under section 832(b)(4). 
Unlike under the rule in the existing final regulations, an 
organization that has an MLR of less than 85 percent does not lose its 
eligibility to be treated as a stock insurance company under section 
833(a)(1).

Effective/Applicability Date

    These final regulations apply to taxable years beginning after 
December 31, 2016. However, taxpayers may rely on these final 
regulations for taxable years beginning after December 31, 2009.

Special Analyses

    Certain IRS regulations, including this one, are exempt from the 
requirement of Executive Order 12866, as supplemented and reaffirmed by 
Executive Order 13563. Therefore, a regulatory impact assessment is not 
required. It has also been determined that section 553(b) of the 
Administrative Procedure Act (APA) (5 U.S.C. chapter 5) does not apply 
to these regulations, and because the regulations do not impose a 
collection of information on small entities, the Regulatory Flexibility 
Act (5 U.S.C. chapter 6) does not apply.
    The Treasury Department and the IRS have determined that section 
553(b) of the APA does not apply to these regulations, including 
because good cause exists under section 553(b)(B) of the APA. Section 
553(b)(B) provides that an agency is not required to publish a notice 
of proposed rulemaking in the Federal Register when the agency, for 
good cause, finds that notice and public comment thereon are 
impracticable, unnecessary, or contrary to the public interest. The 
Treasury Department and the IRS have determined that notice and public 
comment are unnecessary inasmuch as these revisions (1) merely 
incorporate the Technical Correction by adding or removing language in 
the existing final regulations and make nonsubstantive conforming 
changes to reflect the Technical Correction and (2) provide taxpayers 
with immediate guidance. For the same reason, a delayed effective date 
is not required pursuant to section 553(d)(3) of the APA. Pursuant to 
section 7805(f)(3) of the Code, these final regulations were submitted 
to the Chief Counsel for Advocacy of the Small Business Administration 
for comments on its impact on small businesses, and no comments were 
received.

Drafting Information

    The principal author of these regulations is Rebecca L. Baxter, 
Office of Associate Chief Counsel (Financial Institutions & Products). 
However, other personnel from the Treasury Department and the IRS 
participated in their development.

Availability of IRS Documents

    The IRS notices and Treasury decisions cited in this preamble are 
made available by the Superintendent of Documents, U.S. Government 
Printing Office, Washington, DC 20402.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority:  26 U.S.C. 7805 * * *


0
Par. 2. Section 1.833-1 is revised to read as follows:


Sec.  1.833-1  Medical loss ratio under section 833(c)(5).

    (a) In general. Section 833(a)(2) and (3) do not apply to an 
organization unless the organization's medical loss ratio (MLR) for a 
taxable year is at least 85 percent. Paragraph (b) of this section 
provides definitions that apply for purposes of section 833(c)(5) and 
this section. Paragraph (c) of this section provides rules for 
computing an organization's MLR under section 833(c)(5). Paragraph (d) 
of this section addresses the treatment under section 833 of an 
organization that has an MLR of less than 85 percent. Paragraph (e) of 
this section provides the effective/applicability date.
    (b) Definitions. The following definitions apply for purposes of 
section 833(c)(5) and this section.
    (1) Activities that improve health care quality. The term 
activities that improve health care quality has the same meaning as 
that term has in section 300gg-18 of title 42, United States Code and 
the regulations issued under that section (see 45 CFR 158.150).
    (2) Reimbursement for clinical services. The term reimbursement for 
clinical services has the same meaning as that term has in section 
300gg-18 of title 42, United States Code and the regulations issued 
under that section (see 45 CFR 158.140).
    (3) Total premium revenue. The term total premium revenue means the 
total amount of premium revenue (excluding federal and state taxes and 
licensing or regulatory fees and after accounting for payments or 
receipts for risk adjustment, risk corridors, and reinsurance under 
sections 1341, 1342, and 1343 of the Patient Protection and Affordable 
Care Act, Public Law 111-148 (124 Stat. 119 (2010)) (42 U.S.C. 18061, 
18062, and 18063)) as those terms are used for purposes of section 
300gg 18(b) of title 42, United States Code and the regulations issued 
under that section (see 45 CFR part 158).
    (c) Computation of MLR under section 833(c)(5)--(1) In general. 
Starting with the first taxable year beginning after December 31, 2015, 
and for all succeeding taxable years, an organization's MLR with 
respect to a taxable year is the ratio, expressed as a percentage, of 
the MLR numerator, as described in paragraph (c)(1)(i) of this section, 
to the MLR denominator, as described in paragraph (c)(1)(ii) of this 
section.
    (i) MLR numerator. The numerator of an organization's MLR is the 
total premium revenue expended on reimbursement for clinical services 
and activities that improve health care quality provided to enrollees 
under its policies for the taxable year, computed using a three-year 
period in the same manner as those expenses are computed for the plan 
year for purposes of section 300gg-18(b) of title 42, United States 
Code and regulations issued under that section (see 45 CFR part 158).
    (ii) MLR denominator. The denominator of an organization's MLR is 
the organization's total premium revenue for the taxable year, computed 
using a three-year period in the same manner as the total premium 
revenue is

[[Page 40521]]

computed for the plan year for purposes of section 300gg-18(b) of title 
42, United States Code and regulations issued under that section (see 
45 CFR part 158).
    (2) Transition rules. The transition rules in paragraphs (c)(2)(i) 
and (ii) of this section apply solely for the first taxable year 
beginning after December 31, 2013, and the first taxable year beginning 
after December 31, 2014.
    (i) First taxable year beginning after December 31, 2013. For the 
first taxable year beginning after December 31, 2013, the numerator of 
an organization's MLR is the total premium revenue expended on 
reimbursement for clinical services and activities that improve health 
care quality provided to enrollees under its policies for the first 
taxable year beginning after December 31, 2013, and the denominator of 
an organization's MLR is the organization's total premium revenue for 
the first taxable year beginning after December 31, 2013.
    (ii) First taxable year beginning after December 31, 2014. For the 
first taxable year beginning after December 31, 2014, the numerator of 
an organization's MLR is the sum of the total premium revenue expended 
on reimbursement for clinical services and activities that improve 
health care quality provided to enrollees under its policies for the 
first taxable year beginning after December 31, 2013, and for the first 
taxable year beginning after December 31, 2014, and the denominator of 
an organization's MLR is the sum of the organization's total premium 
revenue for the first taxable year beginning after December 31, 2013, 
and for the first taxable year beginning after December 31, 2014.
    (d) Failure to qualify under section 833(c)(5)--(1) In general. If, 
for any taxable year, an organization's MLR is less than 85 percent, 
then beginning in that taxable year and for each subsequent taxable 
year for which the organization's MLR remains less than 85 percent, 
paragraphs (d)(1)(i) and (ii) of this section apply.
    (i) Special deduction. The organization is not allowed the special 
deduction set forth in section 833(b).
    (ii) Premiums earned. The organization must take into account 80 
percent, rather than 100 percent, of its unearned premiums under 
section 832(b)(4) as it applies to other non-life insurance companies.
    (2) No material change. An organization's loss of eligibility for 
the treatment provided by sections 833(a)(2) and (3) solely by reason 
of section 833(c)(5) will not be treated as a material change in the 
operations of such organization or in its structure for purposes of 
section 833(c)(2)(C).
    (e) Effective/applicability date. This section applies to taxable 
years beginning after December 31, 2016. However, taxpayers may rely on 
this section for taxable years beginning after December 31, 2009.

John Dalrymple,
Deputy Commissioner for Services and Enforcement.
    Approved: May 18, 2016.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2016-14784 Filed 6-21-16; 8:45 am]
 BILLING CODE 4830-01-P