As many of us were preparing for the December holiday season, the IRS was busy mailing out a flurry of 2023 Employer Shared Responsibility Payment (ESRP) letters. Many unsuspecting ALEs began 2026 by questioning why they received a proposed ACA penalty from the IRS and what they should do about it.
How are ESRP Letters Triggered?
The Affordable Care Act’s employer mandate requires Applicable Large Employers, aka ALEs, that averaged at least 50 full-time and/or full-time equivalent employees during the previous calendar year, to offer minimum essential coverage (MEC) to at least 95% (or all but 5, if greater) of full-time employees and their dependent children each month. The offer made to full-time employees must also provide minimum value (MV) and be affordable according to either the Federal Poverty Line, Rate of Pay, or W-2 safe harbor.
In most cases, the IRS sends ESRP proposed penalty notices when an ALE’s Forms 1094/1095-C communicate they weren’t fully compliant with the ACA’s employer mandate and at least one of the ALE’s full-time employees consequently receives subsidized Marketplace coverage. However, in recent years, the IRS has also begun challenging coverage affordability under the W-2 safe harbor for full-time employees who enroll in subsidized coverage, even if the individual’s Form 1095-C indicates the offer of medical coverage was affordable. This is important to note because now, even ALEs that make a fully compliant offer and accurately communicate that in their ACA filings can be at risk of receiving these proposed penalties if they’ve elected the W-2 safe harbor. So far, we haven’t seen similar kinds of affordability challenges to the Rate of Pay safe harbor.
How Are the Proposed Penalties Calculated?
ESRP penalties can be broken down into two categories: §4980H(a) (or the (a) penalty) and §4980H(b) (the (b) penalty). The dollar amounts for both penalties are adjusted annually for inflation.
- 4980H(a) penalties are triggered when an ALE doesn’t offer MEC to at least 95% (or all but 5, if greater) of full-time employees and their dependent children in any given month and, as mentioned, at least one of the ALE’s full-time employees enrolls in subsidized Marketplace coverage. The monthly (a) penalty is multiplied by the total full-time employee count the ALE reported on their Form 1094-C, minus the first 30, regardless of how many employees were offered coverage. If the employer is part of an aggregated ALE group, the 30-employee reduction is spread across the aggregated ALE group members. The monthly calculation for 2026 §4980H(a) penalties is $278.33 x (number of full-time employees reported on the employer’s Form 1094-C for that month – 30).
If an ALE satisfies the MEC requirements and dodges the (a) penalty exposure, they may still owe a penalty for any full-time employee who isn’t offered MV, affordable coverage if that employee enrolls through a public Marketplace and qualifies for a premium tax credit. This penalty applies on a per-employee basis rather than against the total full-time employee count. In other words, if the employer overall doesn’t offer affordable coverage but only a handful of their full-time employees enroll in Marketplace coverage, the proposed penalty would only be calculated according to that handful. The monthly calculation for 2026 4980H(b) penalties is $417.50 x (number of full-time employees who enrolled in subsidized Marketplace coverage).
ALEs will never be subject to both (a) and (b) penalties in any one month. If the (a) penalty applies, that is the maximum penalty that could be assessed for that month. However, if the employer complies with the (a) requirements and fails to satisfy the (b) requirements, there may be a penalty under §4980H(b).
How Should ALEs Respond?
Because completing ACA reporting accurately can be complicated to begin with and the corresponding employer mandate penalties can add up very quickly, we encourage ALEs that have received ESRP letters to partner with a vendor that specializes in this type of work to prepare a response. Nonetheless, there are a few things for ALEs to keep in mind when they first receive an ESRP letter:
- Begin developing a plan of action immediately. The letters only give ALEs 90 days to submit a response, and that time can fly by quickly if payroll and health plan details are hard to find. The IRS’s collections process can kick in if too much time passes before they receive a response, which means ALEs will need to request a refund for monies the IRS withheld once the penalty is resolved.
- Inquire if the vendor that prepared your ACA filing will assist with a response to the letter. If not, search for another service provider that will.
- Don’t try to submit a corrected ACA filing to resolve the penalty. Instead, follow the letter’s instructions and work out the issue within the IRS’s ESRP department. Submitting a corrections filing instead of following the prescribed process can cause confusion and delay resolution.
- Read the letter thoroughly so you can develop an understanding of how the penalties were triggered and calculated. If you need assistance, ask the vendor you’ve chosen to explain it to you.
- Audit the items that triggered penalties against your most recent ACA filings. Does it look like the same issues are present? If so, do they accurately reflect your ACA compliance? We recognize that some employers make a business decision to only comply with certain aspects of the employer mandate. If your organization was fully compliant with the ACA but your most recent filing communicates otherwise, you may want to consider shopping around for a different ACA vendor. Of course, if your most recent filing hasn’t been submitted yet, you should ensure your current vendor revises those errors before your Forms 1094 & 1095-C are e-Filed with the IRS.
The surge of ESRP letters we’ve seen in the past few weeks serves as a strong reminder that the IRS is still actively enforcing ACA penalties. To minimize the risk of future penalty exposure, ALEs should make sure their 2025 ACA filings due to recipients and the IRS in just a few months are accurate and timely. In the meantime, those ALEs that have recently received an ESRP letter for past filings should seek assistance with their response as soon as possible. If you’d like more information about Lumelight’s ACA reporting or ESRP response services, please reach out to us at sales@lumelight.com.
