April 3, 2020
As the COVID-19 crisis continues, many employers are facing the difficult challenge of determining how to achieve significant cost reductions due to a sudden reduction in revenue.
Many companies are now going through the unfortunate and difficult process of determining how to achieve significant cost reductions as a result of the sudden reduction of revenue resulting from the current shelter-in-place environment caused by the COVID-19 pandemic. Set out below is a useful list of compensation and benefits-related actions that many of these companies are considering.
1. Involuntary Furlough
A furlough is a term of art that generally refers to an involuntary unpaid leave of absence from an employer. While there are a number of employment-law considerations to be considered in connection with a furlough that we have discussed in previous Holland & Knight alerts, below is a discussion of the most common compensation and benefits considerations.
• Coordination with state unemployment insurance. The primary benefit of a furlough is that the employer is offloading compensation expense (including associated payroll taxes) to the state unemployment insurance system. Importantly, the vast majority of states now permit employees to collect unemployment benefits for temporary furloughs associated with the current coronavirus-related economic downturn.
• Severance benefits. It is important to carefully review the employer’s severance plan to ensure that a temporary furlough will not result in an unintended triggering of severance benefits. Many plans use the 409A definition of Severance from Service as a trigger for severance benefits. That definition essentially provides that severance benefits will be triggered if the furlough lasts for more than six months but can be a longer period if the employee has a guaranteed contractual right to reemployment.
• Supplemental Pay Plans. Many employers are establishing supplemental pay plans as a means of paying additional wages to workers over and above the limits of state unemployment benefits. The primary benefit of these plans is that the payments can be made without incurring either the employee or employer portion of Federal Insurance Contributions Act (FICA) and Federal Unemployment Tax Act (FUTA) taxes.
• Paid Time Off. The interplay of PTO policies and state law can be complex during a furlough. The primary issue is whether employers can require furloughed employees to use their PTO during the furlough. Several jurisdictions require employers to provide sick leave. Mandated use of sick leave during the furlough for a non-sick leave purpose could run afoul of these laws. To address this concern, employers should instead give employees the option of using PTO as a way of getting full payment for select days during the furlough instead of mandating the use of PTO.
• Medical Benefits. Most employers are choosing to continue medical benefits for furloughed employees. An employer should carefully review its plan in order to determine if the plan provides continued benefits for unpaid leaves that could be construed to include a furlough. If not and benefits are continued, a plan amendment may be required. Where benefits cannot be continued, employees will have a COBRA event.
• Health Savings Accounts. HSAs travel with the employees. As a result, employees should be notified that they will continue to be able to contribute to their HSAs as well as submit qualifying medical expenses to them.
• Healthcare Flexible Spending Accounts. Healthcare FSAs are more complex. If employers want to allow employees to submit expenses incurred during the furlough, employers will need to ensure that coverage continues. This can be done by allowing employees to pay contributions during the leave with after-tax dollars, or paying contributions on behalf of employees during the leave and collecting the missed contributions once the furlough is over. Because of the risk-sharing underpinnings of FSAs, the latter may cause the employer to make payments that it never recovers if the employee does not return to work. That said, due to the low dollar value involved and the fact that most employees will desire to return to work when possible, many employers are electing to continue coverage in this manner.
• Dependent Care Spending Accounts. Because dependent care spending accounts may only permit payment of expenses while an employee is working, these arrangements may not allow employees to submit expenses relating to periods during a furlough.
• Insured Benefits. Employers should consider allowing employees to continue to pay for insured benefits as an employee-pay-all expense during furlough or allow employees to make up missed premium payments after the furlough. The employer should confirm that their policies will allow for continued coverage during the furlough. Allowing these benefits – including life, dental, accidental death and dismemberment (AD&D), and long-term disability (LTD) – to continue could offer much needed protection during a critical time.
• Short-Term Disability. STD is generally a payroll practice that is intended to replace a portion of employees’ income while they are sick. To be consistent with the furlough, employers may want to amend their STD plans to clarify that employees will not become entitled to income replacement during an unpaid furlough. Failure to do so could defeat the purpose of the furlough.
• Annual Bonus Plans. Employers should consider whether leave of absence while on furlough should result in prorating any bonus payable under bonus plans covering the employee. Many plans already contain provisions providing for such prorating.
• Long-Term Equity Incentive Plans. The employer will need to determine whether employees continue to vest in unvested equity during the furlough period. In most cases, employers are offering continued vesting.
• Unemployment Insurance Rating. It is important to remember that use of a furlough will likely impact the rating used to calculate the employer’s state unemployment insurance tax. While there is the possibility that future federal relief made available to states will lessen this impact, as of today, no such relief has been offered.
2. Voluntary Furlough
In additional to mandatory furloughs, some employers are offering their employees the opportunity to take voluntary furlough if they feel unsafe returning to work. The issues associated with these programs are similar to those described above. As of now, it appears that many states will allow employees who volunteer for a furlough to receive state unemployment insurance benefits, but a careful state by state review should be undertaken before offering such a program.
3. 401(k) Plans
Employers are actively considering whether to prospectively cease matching contributions and profit-sharing contributions. Most well-drafted plans provide that these contributions are discretionary and may be stopped prospectively. Other employers are considering making these contributions in employer securities to lessen their cash outflows while still providing the benefit. For public companies traded on national exchange, exchange rules generally require that these shares only be issued pursuant to a shareholder-approved plan. Private companies must ensure that any contributions qualify for an exemption from securities registration requirements and are made in a way that protects the employer from securities fraud litigation.
4. Annual Bonus Plans
Employers may also consider making bonus payments in stock. As mentioned above, for public companies traded on national exchange, exchange rules generally require that these shares only be issued pursuant to a shareholder-approved plan. Those plans generally contain a limitation requiring a minimum one-year vesting restriction to be applied to the awards. If the intent is to provide immediately vested bonuses to employees, the employer may need to amend this provision, but doing so could have adverse implications on institutional shareholder support for various proxy proposals.
5. Equity Compensation Plan Tax Offsets
Some employers reduce the shares issued upon vesting or the exercise of certain types of equity awards by the number of shares necessary to pay taxes related to the vesting or exercise. Doing so requires the employer to come out of pocket to pay the related tax. Some employers are choosing to revise this process so that employees would be responsible for selling their shares to pay the taxes. Doing so may have an impact on the grantee under the so-called “short swing profit” rule of Section 16. Accordingly, these transactions should be carefully reviewed with the employer’s securities counsel.
Conclusion and Considerations
Many employers are considering all cost-saving measures during this crisis. Implementing such measures as they relate to compensation and benefit plans requires careful planning in order to avoid missteps that could result in legal liability as well as a disastrous impact on an employer’s human capital. As a result, it is very important for any company that intends to institute any of these strategies to carefully consider the consequences and implications of doing so to their business and employees.
Compliments of Holland & Knight LLP – a member of the EACCNY.