For the second summer in a row, the United States Supreme Court has issued a landmark ruling affecting employee benefits. Last summer, it was the Supreme Court's decision regarding the Affordable Care Act. This summer the Supreme Court has ruled that Section 3 of the Defense of Marriage Act is unconstitutional. The effect is that, for purposes of federal law (including ERISA and the Internal Revenue Code), the Supreme Court's ruling recognizes same-sex marriages, giving them the same status as opposite-sex marriages. However, it leaves important questions unanswered (including whether employee benefit plans will be affected retroactively, and the status of same-sex marriages that are validly contracted in one state, when the couple moves to a state that does not recognize same-sex marriages).

What is the Defense of Marriage Act?

The Defense of Marriage Act or DOMA was passed by Congress and signed by then President Clinton in 1996, when no state had yet approved same-sex marriages. For employee benefit purposes, there are two important sections to the Defense of Marriage Act. Section 2 of DOMA provides that no state shall be required to recognize as a marriage any relationship between persons of the same sex that is treated as a marriage by another state, nor to grant rights based on the relationship. Section 3 of DOMA provides that, for purposes of federal law, same-sex marriages are not recognized.

What Did the Supreme Court Decide?

The Supreme Court in United States v. Windsor ("Windsor")struck down Section 3 of DOMA as unconstitutional. This means under federal law a same-sex marriage, which is valid under state law, will be recognized to the same extent as an opposite-sex marriage. So, for example, same-sex married couples may file federal income tax returns as spouses and claim spousal Social Security benefits. However, state laws that recognize only opposite-sex marriages remain valid.

Section 2 of DOMA was not at issue in the case, and it remains intact. This raises "cross-border" issues. For example, if a same-sex couple resides in and validly marries in a state that recognizes same-sex marriage, such as New York, the marriage is clearly valid under both New York and federal law. If this couple then moves to a state that does not authorize same-sex marriage, Section 2 of DOMA allows this second state not to recognize the marriage. Thus, after Windsor, it is clear that Section 2 of DOMA continues to allow the second state to treat the couple as unmarried for purposes of its state laws. What is unclear is whether the couple is still considered married for purposes of federal law. In other words, what governs under federal law (including federal benefits law) - the law of the contracting state (New York) or the law of the state of residence?

We suspect that most plan sponsors would prefer to avoid modifying the operation of their plans when same-sex married couples relocate to states with a different stance on same-sex marriage. Eventually, the courts will address this question, but plan administrative decisions cannot wait for that. We expect the Internal Revenue Service to provide a much quicker response to Windsor, which was after all about federal taxes. Given the Obama Administration's stance in the case (it agreed Section 3 of DOMA was unconstitutional) an interpretation that gives relatively more recognition to same-sex marriages seems likely. It could cite Windsor's language about a constitutional right to have the dignity a state accords to a same-sex marriage recognized for purposes of federal law. Further, it could reconcile that with Section 2 of DOMA, because Section 2 protects a state's non-recognition of same-sex marriages for purposes of its state law. It does not require exporting that non-recognition to federal law. Of course, an IRS interpretation will not bind courts that later take up specific cases. However, if the IRS comes out as expected, it should eliminate uncertainty for purposes of the tax status of benefit plans, and plans can take additional comfort in noting that generally they are most subject to challenge for not recognizing a same-sex marriage.

Is the Decision Retroactive?

The Supreme Court did not address the extent to which the decision will apply retroactively. In the tax context in which it arose, there are timing rules for seeking tax refunds that reasonably limit its potential retroactive impact. In the benefits area, however, the IRS has required plans to apply Section 3 of DOMA, and benefits have been paid on that basis that are now arguably incorrect. For example, a defined benefit plan may have paid out a single-life annuity to a participant who had a same-sex spouse. Under IRS rules, the plan was barred from conditioning the payment of the single life annuity on getting spousal consent (which would have applied with an opposite-sex marriage). Now the plan could face a claim from the surviving spouse for the survivor benefit that should have been part of the default QJSA. Recovery from the deceased participant of the "overpayment" (excess of the single-life annuity payments over the participant's QJSA payments) is likely impractical. Thus, retroactivity holds a real potential for unanticipated liability and claims-related disruption.

Notably, there has in the past been some relief from retroactivity. For example, when the Heinz Supreme Court case changed the rules for pension plans that "suspend" benefits in 2004, the IRS issued relief from retroactive adverse impact with respect to tax-qualification. In addition, in the 70's and 80's when the Supreme Court ruled that it was sex discrimination for pension plans to use sex-distinct mortality tables, two Supreme Court decisions (Arizona v. Norris and Florida v. Long) that followed the initial decision (Los Angeles v. Manhart) protected pension plans with respect to retroactivity, noting the difficulty the affected plans would have had with large unanticipated liabilities. More recently, in January of this year Congress retroactively increased transit benefits, thereby turning what was previously an after-tax benefit into a pre-tax benefit. In that case, the Internal Revenue Service issued guidance addressing the issue and how certain employers could correct their withholding taxes. On the other hand, cases that considered participant claims arising after the Heinz decision permitted retroactive claims (the IRS relief only applied for purposes of tax qualification).

For now, however, there seems no reason for plans to assume retroactivity. Claims may arise that will have to be managed, but most plans will want to avoid a wholesale revisiting of all potentially affected situations for the present. Plan provisions that apply contractual limitation periods on bringing claims that are shorter than would apply under ERISA case law may be especially helpful in this context. Thus, this is probably an ideal time for an updated review of strategies to limit claims exposure. In other respects, however, adopting plan language that seeks to protect a plan from retroactivity seems reasonable.

What are the Implications for Health and Welfare Plans?

If coverage is offered to opposite-sex spouses, then the plan is required to offer coverage to same-sex spouses on the same terms and conditions. Employers with plans that do not cover same-sex spouses should allow employees to enroll their same-sex spouse as soon as possible. This will bring into play the "cross-border" issue discussed above. Additional implications include the following -

Health Plans - Federal income tax imputation is no longer required for same-sex marriages that are valid under state law. In theory, it should be possible for employers to reverse imputation that occurred prior to the Windsor decision during 2013 (including recovering the employer share of FICA taxes). Hopefully, this will be addressed in future IRS guidance.

Federal tax imputation is still required if the person is not the employee's spouse. Therefore, such imputation would continue to apply to domestic partnerships or other unions that are not considered valid marriages under state law. However, same-sex spouses that will now be recognized for federal tax purposes may not be recognized for purposes of state income tax imputation. In a cross-border situation, Section 2 of DOMA may protect the second state's right to require state income tax imputation. Complicating the state imputation issue, however, is the fact that many states follow the federal tax code for determining dependents. Therefore, state income taxes are likely to be an issue area for some time.

Flexible Spending Accounts - A same-sex spouse's expenses can now be reimbursed under a health flexible spending account (as well as under HSAs and HRAs), and a same-sex couple will now be considered as married for purposes of dependent care flexible spending accounts. Many sponsors excluded same-sex spouses by design from FSAs, due to the thorny imputation issues with FSA coverage. These design exclusions will now need to be reversed.

COBRA - COBRA continuation coverage rights now apply to same-sex spouses upon a qualifying event, such as a divorce or employee death or termination of employment. Employers should consider whether to distribute an initial COBRA notice to same-sex spouses who are currently covered under the health plan, but who have not received a notice previously.

Changes in Status - A same-sex marriage is now recognized under the qualifying change in status rules for purposes of cafeteria plans. Further, HIPAA special enrollment rights now apply to same-sex spouses. If a plan is amended to now allow same-sex spouses to be enrolled, this amendment provides for a mid-year enrollment situation. However, in cases where the plan already allowed same-sex spousal enrollments, and the employee has an existing same-sex spouse, it's unclear whether the change in status rules would allow a mid-year enrollment.

What are the Implications for Qualified Retirement Plans?

Spouses have special rights under qualified pension and 401(k) plans, including -

Qualified Domestic Relations Orders - QDROs will apply to same-sex spouses who are divorced.

Qualified Joint and Survivor Annuities - QJSA options apply to same-sex spouses, and spousal consent from the same-sex spouse is required for benefit elections that do not provide the same-sex spouse with a benefit at least as favorable as the QJSA.

Qualified Pre-Retirement Survivor Annuities - For pension plans, a QPSA is required for a same-sex spouse when the employee dies prior to retirement without a proper waiver in effect.

Default Beneficiaries - Under most 401(k) and other defined contribution plans, the spouse is the default beneficiary, which will include a same-sex spouse.

Required Minimum Distributions - The RMD rules allow spouses to receive post-death payouts less quickly (payment can be commenced April 1 following when the participant would have reached 70-1/2), and these rules will also apply to same-sex spouses.

What are the Implications for Nonqualified Plans?

Nonqualified deferred compensation plans are also affected by the decision. Supplemental nonqualified plans (typically those that make up for benefits denied under qualified plans because of IRS limits) usually link benefit rights to the underlying qualified plan terms. Under these plans, the new rules will generally flow through from the qualified plan. Other nonqualified plans are independent contractual plans where the employer may have more latitude. Particularly in this context, amending the plan to expressly recognize same-sex spouses may be helpful as part of a strategy of avoiding or limiting retroactivity.

What Should Plan Sponsors Do Now?

Plan sponsors should review their health and welfare plans, retirement plans and nonqualified plans to determine the impact of Windsor, the operational changes that are needed (including changes to plan documents, summary plan descriptions, insurance contracts and benefit election forms) and their overall strategy for minimizing risk, particularly with respect to retroactivity.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.