Creative Plan Design Can Eliminate Annualization Requirements

December 2nd, 2015|By Jeff Bennett

All Merit shop construction companies working on projects covered by the Davis-Bacon Act or state prevailing wage laws have to make decisions on how to satisfy the fringe benefit portion of the prevailing wage law.

The easy path has always been to pay the fringe benefit contributions as wages, in the employee’s weekly paycheck. However, as is typical in life, the easy path is not always the most cost efficient as the benefits paid as wages are subject to labor burden expenses such as payroll taxes, liability premiums, workers compensation premiums, etc..

Utilizing prevailing wage fringe benefits to actually pay for employer provided bona fide benefits such as medical insurance, dental insurance, vacation, supplemental unemployment, apprentice training, and retirement benefits can be more cost efficient as it avoids labor burden expenses.*

However, an merit shop contractor’s ability to shift benefits out of payroll and into actual bona fide benefits is complicated by federal and often state regulations that limit the credit received by the contractor if they do not provide the same level of benefits while working on private work (non-prevailing wage work). The process of limiting credit is known as annualization.

As stated in the U.S. Department of Labor Prevailing Wage Resource book “Annualization is a computational method used to determine the hourly rate of benefit plan contributions that are creditable towards a contractors’ prevailing wage fringe benefit obligation on covered projects.”

In essence, the DOL is limiting credit for the cost of benefit plans for only the periods of time when the employee is actually working on public work. This means that the employer, to receive full credit, will need to provide cost equivalent benefits while working on private work. Depending on the amount of public vs. private work a contractor preforms, annualization costs can quickly outweigh the payroll labor burden savings of utilizing fringe benefit supplements to pay for benefits. This is especially true for contractors that regularly do less than about 80% public work.

However, there is a way to completely avoid annualization and its related cost. Annualization does not apply when employees are given the choice to receive prevailing wage fringe benefits as cash wages in lieu of bona fide benefits.

A Cafeteria Plan established under IRC section 125 permits employees to voluntarily elect to direct part of their wages to purchase benefits. Under this arrangement, the employer is paying the prevailing wage fringe contribution to the employee as wages and the employee is then electing to utilize those contributions for benefits. Because the employer has first provided the prevailing wage fringe contributions as wages, the Department of Labor (both U.S. Department of Labor and state labor departments) exempts the contributions from annualization.

So as you can see, there is an obvious cost advantage for the contractor to convince as many employees as possible to accept employer provided bona fide benefits. It’s also in the employee’s best interest assuming the employer is offering quality insurance and retirement programs. However, convincing the employees is the challenge.

One key to getting great participation in the benefit program is designing and offering a mix of benefits that employees both need and want.

With the passage of the Patient Protection and Affordable Care Act, employees are required to have health insurance coverage. Many employers are offering high deductible health insurance plans to help control the cost. By also offering a Health Savings Account funded with prevailing wage fringe contributions, employees may have no out-of-pocket expense.

As attractive as a fully funded Health Savings Account can be, in our experience, what gets most employees excited, at least those that are subject to seasonal layoff, is supplemental unemployment benefits. By offering a supplemental unemployment benefit plan that matches or even exceeds state unemployment benefits, employees will get money when they need it most! And if properly designed, they will also get big tax savings as those benefits are not subject to FICA (a 7.65% savings) and do not reduce the amount they can receive under state unemployment.

The best strategies start with a 3rd party bona fide benefit trust fund such as our Government Contractors Benefits Trust. A trust provides the financial structure to collect and save the prevailing wage fringe contributions in a compliant fashion until the benefits actually need to be paid (insurance premiums are due, paid time-off or supplemental unemployment benefits are paid, apprentice training expenses are incurred or retirement plan contributions are funded). By utilizing a trust fund, fringes can be banked to pay premiums when employees are working on mostly private work or during periods of layoff.

In summary, flexibility and creativity is the key to success. Giving employees attractive options within a compliant framework can lead to a win-win for both the employees and the contractor.

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 3,000 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.

*The amount of labor burden savings a contractor may achieve is dependent upon the structure of the plan as well as state laws and insurance regulations.


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