CONTINUING TO PAY for laid-off employees’ health insurance, once voluntary—and expensive—is now required for any business that has 20 or more employees and offers a health plan.

The American Recovery and Reinvestment Act, signed into law in February, mandates that companies pay 65% of the health premiums for laid-off workers who elect continued health coverage through the Consolidated Omnibus Budget Reconciliation Act, or COBRA.

The good news is that, thanks to a government subsidy, companies won’t have to pay a dime. The bad: The subsidy requires a good helping of additional paperwork, and possibly a long wait before employers can recover their funds.

The subsidy is a welcome change for companies that already cover a portion of employees’ premiums, says Barbara Weltman, an attorney and small-business tax specialist in Millwood, N.Y. “If employers were picking up the tab, then this could be a big help to them,” she says.

But the truth is, very few employers paid anything towards COBRA before the law was passed, according to Paul Fronstin, senior research associate at the Employee Benefits Research Institute in Washington, D.C. After all, doing so came at a steep price. Last year, if a small business opted to pay 65% of an employee’s COBRA coverage for nine months after termination, it would cost an average $2,281 for each single worker or $6,012 for each family, according to the Kaiser Family Foundation's 2008 employer benefits survey.

Now, such costs will be refunded through the COBRA Health Insurance Continuation Premium Subsidy, a tax credit that offsets the employer’s payroll tax liability. Former employees pay their share, or 35%, to the employer.

To take advantage of the subsidy, companies should account for their payments on their federal quarterly tax return, Form 941. They should also document receiving the employees’ share of the premium. The Internal Revenue Service recommends that employers retain copies of invoices or other supporting statements from insurance carriers and prove that they made timely payments. Finally, employers must provide a declaration of the former employee’s involuntary termination.

But even as employers stand to be fully reimbursed for the cost of providing COBRA to former employees, some employer groups are chafing at the new law.

The American Institute of Professional Bookkeepers, or AIPB, claims that the subsidy saps small companies’ cash flow, since it requires employers to pay COBRA participants’ health-care costs upfront, only to recover them later by reducing their federal employment tax deposit. When the subsidies to be received are higher than a company’s tax deposit, the company must request reimbursement from the U.S. Treasury. “At this point, there is no way to know how long you will have to wait for reimbursement,” says Steve Sahlein, AIPB’s co-president.

The U.S. Chamber of Commerce, which represents three million businesses across the U.S., argues that the expansion of the COBRA provision imposes significant compliance burdens on employers. They are required, for example, to dole out model notices from the Department of Labor to eligible former employees who were involuntarily terminated between Sept. 1, 2008, and Dec. 31, 2009. In addition, workers who lost their jobs between Sept. 1, 2008, and Feb. 17, 2009 – the date the stimulus bill was enacted – but refused to elect COBRA coverage because it was unaffordable, must be given a second COBRA election opportunity, says Kelly Traw a principal at Mercer, a consulting firm in Washington, D.C. Those former employees will get an additional 60 days to elect COBRA.

-Write to Diana Ransom at dransom@smartmoney.com

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