With the laws around healthcare reform changing daily, it seems, being able to accurately advise small business clients on their health coverage options has become a weighty task indeed. Are they eligible for a tax credit if they purchase health insurance? What happens with existing cafeteria plans? What is the employer minimum contribution requirement? Continue reading for answers to these and other pressing questions, and consider sharing them with your clients.
1. Which employers are eligible for the tax credit for the purchase of health insurance available in 2010 and thereafter?
The health insurance tax credit is designed to help small for-profit businesses and tax-exempt organizations (estimated to be four million in number) that primarily employ low- and moderate-income workers. This credit is available to employers that:
- Have twenty-four or fewer eligible full-time equivalent (FTE) employees with wages averaging less than $50,000 per employee per year, and
- Pay at least 50 percent of health insurance costs.
Eligible employees do not include seasonal workers who work for an employer 120 days a year or less, owners, and owners’ family members with average annual compensation of less than $50,000. Such employees are also not eligible if the business pays 50 percent or more of employee-only (single person) health insurance costs. Thus, compensation for seasonal workers, specified owners, and their family members and dependents is not counted in determining average compensation, nor is the health insurance cost for these people eligible for the health insurance tax credit.
The credit is a general business credit and can be carried back for one year and forward for twenty years. The credit, which can be applied to tax liability under the alternative minimum tax, is as follows:
- 35 percent (25 percent for a tax-exempt employer) in 2010 to 2013, and
- 50 percent (35 percent for a tax-exempt employer) beginning in 2014.
A tax-exempt employer can use the credit against payroll taxes.
2. Can more than one employer be treated as a single employer for determining the credit available, the number of employers, and the average compensation?
Yes. All employers treated as a single employer under the controlled group rules or the affiliated service group rules are treated as a single employer for purposes of the tax credit.
3. How is the employer 50 percent payment requirement applied?
In 2010, the employer may qualify if it pays at least 50 percent of the cost of employee-only coverage, regardless of actual coverage elected by an employee. For example, at Company A, where employee-only coverage costs $500 per month and family coverage costs $1,500 per month, the employer pays at least $250 per month (50 percent of employee-only coverage) per covered employee. Even if an employee selected family coverage, Company A would meet the contribution requirement to qualify for the tax credit in 2010.
Beginning in 2011, however, the percentage paid by the employer for each enrolled employee must be a uniform percentage for that coverage level. If the employee receives coverage that is more expensive than single coverage (such as family or self-plus-one coverage), the employer must pay at least 50 percent of the premium for each employee’s coverage in 2011 and thereafter.
Thus, grandfathered health insurance plans that, for instance, provide for 100 percent of family coverage for executives and 100 percent of employee-only coverage for staff will qualify for the tax credit in 2010 but not in 2011 or beyond.
4. Which persons are not counted in determining the number of employees or their average compensation?
Owners are all selfemployed individuals (proprietors, partners, members of LLCs taxed as partnerships), (more than) 2 percent shareholders of an S corporation, (more than) 5 percent or more owners of a small business, and family members and dependents of the self-employer, (more than) 2% S corporation shareholders, or (more than) 5 percent or more owners. Leased employees are eligible employees for the credit.
Leased employees are considered eligible employees for purposes of the credit.
5. How much is the employer tax credit for employer purchase of health insurance?
The new tax credit applies to for-profit and nonprofit employers meeting certain requirements. From 2010 through 2013, the amount of the credit for for-profit employers is 35 percent, and 25 percent for non-profit employers, of qualifying health insurance costs. The credit is increased for any two consecutive years beginning in 2014 to 50 percent of a for-profit employer’s qualifying expenses and 35 percent for nonprofit employers.
6. How is the employer tax credit calculated?
The credit is largest if there are ten or fewer employees and their average wages do not exceed $25,000. The amount of the credit is phased out for businesses with more than ten eligible employees and average compensation of more than $25,000 (but less than $50,000). The amount of an employer’s premium payments that counts for purposes of the credit is capped by the average premium for the small group market in the employer’s geographic location, as determined by HHS.
The IRS released state rates for 2010.
For nonprofit employers, the credit is taken against the employer’s income tax and Medicare withholding obligations and the employer’s Medicare payment obligation, but not against Social Security taxes.
7. How is the average annual wage calculated?
The average wage threshold for determining the phaseout of credits will be adjusted for inflation after 2013.
8. How does the employer health insurance tax credit change in 2014?
In 2014, the amount of the credit increases to 50 percent (35 percent in the case of a tax-exempt eligible small employer) of the lesser of:
- The aggregate amount of employer contributions for premiums for qualified health plans offered by the employer (nonelective contributions excluding employee compensation deferrals) to its employees through an exchange, or
- The average employer contributions (nonelective contributions excluding employee compensation deferrals) which the employer would have made to a qualified health plan for the small group market in the rating area in which the employee enrolls for coverage.
Firms can claim the credit for 2010 through 2013 and for any two consecutive years after that. [This includes regulations to prevent avoiding the 2-year limit on the credit period through the use of successor or multiple entities.]
The selfemployed are eligible for individual premium assistance (the individual tax credit) for health insurance purchased through an exchange available in 2014 if they meet the income requirements (less than 400 percent of the federal poverty level).
The average annual wage thresholds are indexed for inflation.
9. How do existing cafeteria plans work?
In general, employer and employee contributions to any cafeteria plan are deductible to the employer, not subject to Social Security tax, and not taxable income to the participant. Thus, available benefits, which can be purchased with “pre-tax dollars,” include:
- health and dental insurance,
- accidental death and dismemberment policies,
- reimbursement for health and dental expenses not covered by insurance,
- dependent care,
- adoption assistance,
- group term life insurance,
- Health Savings Accounts,
- 401(k) deferrals,
- adoption assistance, and
- disability insurance.
Benefits not available through cafeteria plans are:
- Archer Medical Savings Accounts (MSAs),
- educational assistance,
- Section 132 fringe benefits
- long-term care insurance and LTC services, (though may be paid from an HSA funded through a cafeteria plan),
- health insurance purchased on an exchange that is not purchased pursuant to an employer’s exchange-purchased group health insurance plan,
- group term insurance for a spouse or dependent, and
- 403(b) elective deferrals.
A plan offering any nonqualified benefit is not a cafeteria plan. If a cafeteria plan fails to operate in compliance with Code Section 125 or fails to satisfy any of the written plan requirements for health FSAs, the plan is not considered a Code Section 125 cafeteria plan, and employees’ election of nontaxable benefits results in gross income to all employees.
10. Are simple cafeteria plans subject to any of the regular cafeteria plan tax rules?
Yes. A simple cafeteria plan is a cafeteria plan adopted by an eligible employer that meets specified contribution, eligibility, and participation requirements. Except for the special rules that apply to the simple cafeteria plan, the plan also must meet the other cafeteria plan rules. Thus, it must be a written plan administered in accordance with the written plan terms. The cafeteria plan must, among other things:
- Be maintained by an employer for employees, and
- Operate in compliance with the Code and regulation requirements as well as the requirements of other applicable laws.
In part, the written plan requirements include the following:
- Describe all benefits.
- Provide rules for eligibility to participate.
- Indicate how employer and employer contributions are made under the plan.
- State the maximum amount of employer and employee elective contributions.
- Describe the procedure for making elections.
- Provide that all elections are irrevocable (except to the extent that the plan includes the “change in status” rules).
- List additional requirements if one of the offerings is a health, dependent care, or adoption assistance FSA.
- State the plan year.
- Provide rules for substantiation of expenses.
- If the plan provides a grace period, it must include required language applicable to the two-and-a-half-month grace period.
- Describe the regulations’ “use it or lose it” rule.
An employer maintaining a cafeteria plan in which any highly compensated employee participates must make sure that both the cafeteria plan and each qualified benefit satisfies the cafeteria plan and benefit-specific nondiscrimination requirements. A failure to satisfy the nondiscrimination rules results in additional taxable income to all employees.
11. What is the benefit of the simple cafeteria plan?
Simple cafeteria plans automatically meet all “applicable nondiscrimination requirements,” which are the nondiscrimination requirements of Code Section 125(b) (the 25 percent concentration test) and the nondiscrimination requirements of Code Sections 79(d), 105(h), and 129(d) applicable to group term life insurance, self-insured health benefits (medical expense reimbursement), and dependent care assistance benefits (child care), respectively.
Through an apparent oversight, Code Section 125(j) does not provide an express exception for the health law reform’s health insurance nondiscrimination rules of new Code Section 9815. However, it is likely that if the same insurance options are available to all participants, regardless of their use, the health insurance nondiscrimination rules will be met. The health insurance nondiscrimination regulations, when they are issued, will provide the definitive answer.
Certain benefit-specific nondiscrimination rules continue to apply, such as those for adoption assistance plans because Code Section 137 is not listed in the exemption from the nondiscrimination rules.