Caution: Annualization No-No!

October 19th, 2015|By Jeff Bennett

Avoiding the Annualization of Fringe Benefit Supplements by Private-work Base Pay Reduction / Fringe Pass Thru

In many of our past blog entries as well as our last white paper – Working The Fringe, we have discussed the annualization of fringe benefit supplements in New York and outlined some legitimate strategies for compliance and lessening its economic impact. As a reminder, annualization penalizes an employer who does not make the same fringe benefit contribution on all hours worked, including time spent on both public and private projects.

Through our consulting with contractors, we have learned that some companies (per the advice of certain consultants) are attempting to avoid or lessen annualization by artificially lowering private work wages and then redirecting the amount so lowered as employer contributions to a third-party fringe benefit trust account in an effort to eliminate, or at least offset, the cost of annualization. The employers doing so are of the belief, or have been advised, that this is a perfectly legitimate way to avoid annualization.  While this may look good on paper, in practice we believe it is not. Here’s why:

Obviously, employees will not stand for a flat pay reduction. Therefore, employers have been cajoling their employees to go along with a reduction by passing the amount of the wage reduction as a contribution into the employees’ benefits trust and then immediately passing such amount back out to the employee as “vacation benefits”. Clearly, these are “vacation benefits” in name only and are not bona-fide benefits since they have absolutely nothing to do with time off and are paid each week from the trust along with the normal wages paid by the employer under this arrangement. Thus, the employees receive two checks per week, one from the employer and the other from the trust, with both checks totaling the wage they were originally making prior to implementation of this scheme. Some contractors have included a wrinkle in the scheme where they require the employee to make a written or electronic request for the vacation benefits, each and every pay period. I’m not sure what this accomplishes other than creating more hurdles, inconvenience and confusion for the employees.

The potential savings to employers in this type of arrangement are substantial. Not only will they avoid or at least reduce the cost of annualization, but they will also lower both their cost for overtime pay and their labor burden (workers compensation, liability premiums, etc.) on the “redirected” wages. Although the vacation benefits paid from the trust are subject to FICA, which the employer must pay, they are not subject to workers compensation premiums or liability insurance premiums. The vacation benefits, because they are paid under the third-party trust tax identification number (and possibly paid pursuit to Treasury Regulations, Subchapter C, Sec. 31.3401(a)(12)), may also not be deemed as wages for qualified plan purposes (Profit Sharing).

As we have emphasized in prior writings, the benefits of properly utilizing a third-party bona fide fringe benefit trust are substantial and perfectly legitimate. However, based on our research and experience, as well as those of our advisors, the foregoing gambit of lowering private work wages, and then redirecting them to a trust and immediately returning to the employee as “vacation benefits” runs a significant risk of being deemed an illegal scheme with the intention of underreporting wages by the employer.

The under-reporting of wages wrongly reduces the amounts employees are able to collect for overtime (on private work hours), unemployment insurance, and workers compensation benefits. It can also reduce the allocation to an employee of employer profit sharing contributions.

The intentional, or even unintentional, avoidance of annualization requirements and/or the underreporting of wages can result in substantial adverse consequences to employers, imposed by a long list of governmental authorities.

If you are a Contractor who is currently engaged in, or considering, this type of program, you should strongly consider obtaining a written opinion from your benefit providers’ legal counsel, as well as your own legal counsel, before proceeding further.

As the leaves begin to change and the days grow shorter many contractors will be winding down field operations for the winter and begin planning for 2016. We would welcome any opportunity to discuss how we can help you provide compliant benefits plans that are beneficial for both you and your employees.

If you have additional questions please do not hesitate to contact us or download our whitepapers – “Harnessing the Power of Supplemental Unemployment Benefit Plans” and “Working the Fringe.”

Please also view our short animated video, to see how constructing a bona fide fringe benefit plan, can move prevailing wage dollars out of payroll and reduce associated costs. Increase profits. Submit more competitive bids. Build employee loyalty.

How we can help

DirectAdvisors, established in 2001 and located in Albany, New York provides bona fide benefit plan consulting and third party administrative services to merit shop (non-union) construction companies that are subject to the Davis-Bacon Act, Service Contract Act and state prevailing wage regulations. Our clients are located throughout the United States and range in size from 10 to 3000 employees.

In 2015, our construction company clients will contribute tens of millions of dollars of prevailing wage fringe benefit contributions to The DirectAdvisors Trust (health & welfare benefits) and retirement plans managed by our team.

Our solutions are free from any conflict of interest as we do not sell any financial or insurance products. We work with existing agents, brokers and insurance companies.

NOTE:  The views expressed in this blog are matters of opinion expressed by DR Pension Services, LLC and DR Advisory Services LLC (d/b/a DirectAdvisors) and do not constitute legal or other advice upon which the reader is entitled to rely. 


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