Employer Sponsored Accident And Health Insurance Benefits

<div class="Section1"><br /> <br /> Although there is no particular legal form of plan required, uninsured benefits must be received under some sort of accident and health plan established by the employer for its employees in order to be tax-exempt on the same basis as insured plans.<a href="#_ftn1" name="_ftnref1">¹</a> An Ohio federal District Court described the &ldquo;plan&rdquo; requirement as follows: &ldquo;there is no legal magic to a form; the essence of the arrangement must determine its legal character.&rdquo;<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> A formal contract of insurance is not required if it is clear that, for an adequate consideration, the company has agreed and has become liable to pay and has paid sickness benefits based upon a reasonable plan of protection established for the benefit of its employees. For example, a provision for disability pay in an employment contract has been held to satisfy the condition.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> For tax purposes, it is not necessary for the plan to be in writing or even that an employee&rsquo;s rights to benefits under the plan be enforceable. For example, a plan has been found based on an employer&rsquo;s custom or policy of continuing wages during disability, which was generally known to employees.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> If an employee&rsquo;s rights are not enforceable, the employee must have been covered by a plan or a program, policy, or custom having the effect of a plan when the employee became sick or injured, and notice or knowledge of the plan must have been readily available to the employee.<a href="#_ftn5" name="_ftnref5">⁵</a> Further, for a plan to exist an employer must commit to certain rules and regulations governing payment and these rules must be made known to employees as a definite policy before accident or sickness arises. <em>Ad hoc</em> payments that are made at the complete discretion of an employer do not qualify as a plan.<a href="#_ftn6" name="_ftnref6">⁶</a><br /> <br /> The plan must be for employees. A plan may cover one or more employees and there may be different plans for different employees or classes of employees.<a href="#_ftn7" name="_ftnref7">⁷</a> A plan that is found to cover individuals in a capacity other than their employee status, even though they are employees, is not a plan for employees. For purposes of determining the excludability of employer-provided accident and health benefits, self-employed individuals and certain shareholders owning more than 2 percent of the stock of an S corporation are not treated as employees.<a href="#_ftn8" name="_ftnref8">⁸</a><br /> <br /> Further, uninsured medical expense reimbursement plans for employees must meet nondiscrimination requirements for medical expense reimbursements to be tax-free to highly compensated employees. See Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8795">8795</a> for a discussion of the nondiscrimination requirements applicable to employer-provided health insurance plans.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>. IRC &sect; 105(e).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>. Epmeier v. U.S., 199 F.2d 508, 511 (7th Cir. 1959).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>. Andress v. U.S., 198 F. Supp. 371 (N.D. Ohio 1961).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>. Niekamp v. U.S., 240 F. Supp. 195 (E.D. Mo. 1965); Pickle v. Comm., TC Memo 1971-304.<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>. Treas. Reg. &sect; 1.105-5(a).<br /> <br /> <a href="#_ftnref6" name="_ftn6">6</a>. Est. of Kaufman, 35 TC 663 (1961), aff&rsquo;d, 300 F.2d 128 (6th Cir. 1962); Lang v. Comm., 41 TC 352 (1963); Levine v. Comm., 50 TC 422 (1968); Est. of Chism v. Comm., TC Memo 1962-6, aff&rsquo;d, 322 F.2d 956 (9th Cir. 1963); Burr v. Comm., TC Memo 1966-112; Frazier v. Comm., TC Memo 1994-358; Harris v. U.S., 77-1 USTC &para; 9414 (E.D. Va. 1977).<br /> <br /> <a href="#_ftnref7" name="_ftn7">7</a>. Treas. Reg. &sect; 1.105-5(a); Andress, 198 F. Supp. 371 (N.D. Ohio 1961).<br /> <br /> <a href="#_ftnref8" name="_ftn8">8</a>. IRC &sect; 105(g); Treas. Reg. &sect; 1.105-5(b).<br /> <br /> </div></div><br />

<div class="Section1">A shareholder-employee who owns more than 2 percent of the outstanding stock or voting power of an S corporation (based on direct ownership as well as attributed ownership) will be treated as a partner, not an employee (see Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8803">8803</a> for the rules applicable to partners).<a href="#_ftn1" name="_ftnref1">¹</a> Therefore, accident and health insurance premium payments for more-than percent shareholders paid in consideration for services rendered are treated as guaranteed payments made to partners. The result is that an S corporation can deduct premiums under IRC Section 162 and a shareholder-employee must include premium payments in income under IRC Section 61. The shareholder-employee cannot exclude them under IRC Section 106, but may deduct the cost of the premiums to the extent permitted by IRC Section 162(l), as discussed in Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8803">8803</a>.<a href="#_ftn2" name="_ftnref2">²</a> The IRS released a CCM clarifying that this remains the case even if the 2-percent shareholder-employee is treated as a 2-percent shareholder via the family attribution rules.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> <hr><br /> <br /> <strong>Planning Point:</strong> The IRS has released a set of frequently asked questions based upon the regulations governing the new Section 199A deduction for pass-through entities, such as S corporations. The FAQ provides that health insurance premiums paid by the S corporation for a greater-than-percent shareholder reduce qualified business income (QBI) at the entity level (by reducing the ordinary income used to calculate QBI). Similarly, when a self-employed individual takes a deduction for health insurance attributable to the trade or business, this will be a deduction in determining QBI and can reduce QBI at the entity and individual levels.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> <hr><br /> <br /> With respect to coverage purchased by an S corporation for employees who do not own any stock and for shareholder-employees who own 2 percent or less of the outstanding stock or voting power, the same rules apply as in any other employer-employee situation.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>. IRC &sect; 1372.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>. Rev. Rul. 916, 1991-1 CB 184.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>. CCM 201912001.<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>. FAQ is available at: https://www.irs.gov/newsroom/tax-cuts-and-jobs-act-provision-11011-section-199a-qualified-business-income-deduction-faqs.<br /> <br /> </div></div><br />

<div class="Section1">An employee may not be reimbursed for the same medical care expense by both an HRA and an IRC Section 125 health FSA (see Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8834">8834</a>). Technically, ordering rules from the IRS specify that the HRA benefits must be exhausted before FSA reimbursements may be made. Despite this, HRAs can be drafted to specify that coverage under the HRA is available only after expenses exceeding the dollar amount of an IRC Section 125 FSA have been paid. Thus, an employee could exhaust FSA coverage, because FSA funds may only be carried over if the FSA specifically permits a carryover (and even then only up to $500 per year ($640 in 2024, $570 in 2022 and $550 in 2020 and 2021)<a href="#_ftn1" name="_ftnref1">¹</a> can be carried forward), before tapping into HRA coverage, which can be carried over.<a href="#_ftn2" name="_ftnref2">²</a><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Notice 2020-23.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Notice 2002-45, 2002-2 CB 93.<br /> <br /> </div></div><br />

<div class="Section1">No.<div class="Section1"><br /> <br /> All kinds of benefits from personal health insurance generally are entirely exempt from income tax. This includes disability income; ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="382">382</a>), dismemberment and sight loss benefits; critical illness benefits;<a href="#_ftn1" name="_ftnref1">¹</a> and hospital, surgical, or other medical expense reimbursement. There is no limit on the amount of benefits, including the amount of disability income, that can be received tax-free under personally paid health insurance or under an arrangement having the effect of accident or health insurance.<a href="#_ftn2" name="_ftnref2">²</a> At least one court has held, however, that the IRC Section&nbsp;104(a)(3) exclusion is not available where a taxpayer&rsquo;s claims for insurance benefits were not made in good faith and were not based on a true illness or injury.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> The accidental death benefit under a health insurance policy may be tax-exempt to a beneficiary as death proceeds of life insurance ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="65">65</a>).<a href="#_ftn4" name="_ftnref4">⁴</a> Disability benefits received for loss of income or earning capacity under no fault insurance are excludable from gross income.<a href="#_ftn5" name="_ftnref5">⁵</a> The exclusion also has been applied to an insured to whom policies were transferred by a professional service corporation in which the insured was the sole stockholder.<a href="#_ftn6" name="_ftnref6">⁶</a><br /> <br /> Health insurance benefits are tax-exempt if received by the insured and if received by a person having an insurable interest in an insured.<a href="#_ftn7" name="_ftnref7">⁷</a><br /> <br /> Medical expense reimbursement benefits must be taken into account in computing a taxpayer&rsquo;s medical expense deduction. Because only unreimbursed expenses are deductible, the total amount of medical expenses paid during a taxable year must be reduced by the total amount of reimbursements received in that taxable year.<a href="#_ftn8" name="_ftnref8">⁸</a><br /> <br /> Likewise, if medical expenses are deducted in the year they are paid and then reimbursed in a later year, the taxpayer or the taxpayer&rsquo;s estate, where the deduction is taken on the decedent&rsquo;s final return but later reimbursed to the taxpayer&rsquo;s estate, must include the reimbursement, to the extent of the prior year&rsquo;s deduction, in gross income for the later year.<a href="#_ftn9" name="_ftnref9">⁹</a><br /> <br /> Where the value of a decedent&rsquo;s right to reimbursement proceeds, which is income in respect of a decedent,<a href="#_ftn10" name="_ftnref10">¹⁰</a> is included in the decedent&rsquo;s estate ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="424">424</a>), an income tax deduction is available for the portion of estate tax attributable to such value.<br /> <br /> Disability income is not treated as reimbursement for medical expenses and, therefore, does not offset such expenses.<a href="#_ftn11" name="_ftnref11">¹¹</a><br /> <blockquote><em>Example:</em> Mr. Jones, whose adjusted gross income for 2024 was $25,000, paid $3,000 in medical expenses during that year. On his 2024 return, he took a medical expense deduction of $1,125 [$3,000 &ndash; $1,875 (7.5 percent of his adjusted gross income)]. In 2025, Mr. Jones receives the following benefits from his health insurance: disability income, $1,200; reimbursement for 2024 doctor and hospital bills, $400. He must report $400 as taxable income on his 2025 return. Had Mr. Jones received the reimbursement in 2024, his medical expense deduction for that year would have been limited to $725 ($3,000 &ndash; $400 [reimbursement] &ndash; $1,875 [7.5 percent of adjusted gross income]). Otherwise, he would have received the entire amount of insurance benefits, including the medical expense reimbursement, tax-free.</blockquote><br /> <br /> <hr><br /> <br /> <strong>Planning Point:</strong> This example illustrates that the timing of medical expense payments and their submission for reimbursement may be critical to the individual&rsquo;s personal tax planning, particularly in regard to reaching the requisite 7.5 percent of adjusted gross income threshold.<br /> <br /> <hr><br /> <br /> </div><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; <em>See, e.g.,</em> Let Rul. 200903001.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 104(a)(3); Rev. Rul. 55-331, 1955-1 CB 271, <em>modified by</em> Rev. Rul. 68-212, 1968-1 CB 91; Rev. Rul. 70-394, 1970-2 CB 34.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; <em>Dodge v. Commissioner</em>, 93-1 USTC &para; 50,021 (8th Cir. 1992).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 101(a); Treas. Reg. &sect; 1.101-1(a).<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Rev. Rul. 73-155, 1973-1 CB 50.<br /> <br /> <a href="#_ftnref6" name="_ftn6">6</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Let. Rul. 7751104.<br /> <br /> <a href="#_ftnref7" name="_ftn7">7</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 104; <em>Castner Garage, Ltd. v. Commissioner</em>, 43 BTA 1 (1940), acq. 1941-1 CB 11<em>.</em><br /> <br /> <a href="#_ftnref8" name="_ftn8">8</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Rev. Rul. 56-18, 1956-1 CB 135.<br /> <br /> <a href="#_ftnref9" name="_ftn9">9</a>.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; Treas. Reg. &sect;&sect; 1.104-1, 1.213-1(g); Rev. Rul. 78-292, 1978-2 CB 233.<br /> <br /> <a href="#_ftnref10" name="_ftn10">10</a>.&nbsp;&nbsp;&nbsp;&nbsp; Rev. Rul. 78-292, 1978-2 CB 233.<br /> <br /> <a href="#_ftnref11" name="_ftn11">11</a>.&nbsp;&nbsp;&nbsp;&nbsp; <em>Deming v. Commissioner</em>, 9 TC 383 (1947), <em>acq</em>. 1948-1 CB 1.<br /> <br /> </div></div><br />

<div class="Section1">An HSA generally is exempt from income tax unless it ceases to be an HSA.<a href="#_ftn1" name="_ftnref1">¹</a><div class="Section1"><br /> <br /> In addition, rules similar to those applicable to individual retirement arrangements (IRAs) regarding the loss of the income tax exemption for an account where an employee engages in a prohibited transaction<a href="#_ftn2" name="_ftnref2">²</a> and those regarding the effect of pledging an account as security<a href="#_ftn3" name="_ftnref3">³</a> apply to HSAs. Any amounts treated as distributed under these rules will be treated as not used to pay qualified medical expenses ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3649">3649</a>).<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> </div><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 223(e)(1).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 408(e)(2).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 408(e)(4).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>.&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect; 223(e)(2).<br /> <br /> </div></div><br />

<div class="Section1">Employer-provided accident and health coverage for an employee and the employee&rsquo;s spouse and dependents, both before and after retirement, and for the employee&rsquo;s surviving spouse and dependents after the employee&rsquo;s death, does not have to be included in gross income by the active or retired employee or, after the employee&rsquo;s death, by the employee&rsquo;s survivors.<a href="#_ftn1" name="_ftnref1">¹</a><div class="Section1">In 2010, the Affordable Care Act (&ldquo;ACA&rdquo;), expanded the exclusion from gross income for amounts expended on medical care to include employer-provided health coverage for any adult child of the taxpayer if the adult child has not attained the age of 27 as of the end of the taxable year. The IRS has released guidance indicating that the exclusion applies regardless of whether the adult child is eligible to be claimed as a dependent for tax purposes.<a href="#_ftn2" name="_ftnref2">²</a></div><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>. Rev. Rul. 82-196, 1982 CB 53; GCM 38917 (11-17-82).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>. IRC &sect; 105(b), as amended by the Patient Protection and Affordable Care Act of 2010 and the Health Care and Education Reconciliation Act of 2010. Notice 2010-38, 20100 IRB 682.<br /> <br /> </div></div><br />

<div class="Section1">Accidental death benefits under an employer&rsquo;s plan are received income tax-free by an employee&rsquo;s beneficiary under IRC Section 101(a) as life insurance proceeds payable by reason of the insured&rsquo;s death.<a href="#_ftn1" name="_ftnref1">¹</a> Death benefits payable under life insurance contracts issued after December 31, 1984, are excludable if the contract meets the statutory definition of a life insurance contract in IRC Section 7702. See Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8763">8763</a> to Q <a href="javascript:void(0)" class="accordion-cross-reference" id="8785">8785</a> for a detailed discussion of the tax treatment of life insurance death proceeds.<br /> <p style="text-align: center">Survivors&rsquo; Benefits</p><br /> Benefits paid to a surviving spouse and dependents under an employer accident and health plan that provided coverage for an employee and the employee&rsquo;s spouse and dependents both before and after retirement, and to the employee&rsquo;s surviving spouse and dependents after the employee&rsquo;s death, are excludable to the extent that they would be if paid to the employee.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>. Treas. Reg. &sect; 1.101-1(a).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>. Rev. Rul. 82-196, 1982 CB 53; GCM 38917 (11-17-82).<br /> <br /> </div></div><br />

<div class="Section1">Each year employers must report on the Form W-2 to each employee the amount contributed to an HSA for the employee or the employee’s spouse. The report must be received by the employee by January 31 of the following year.<a href="#_ftn1" name="_ftnref1">¹</a></div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.     IRC § 6051(a); Notice 2004-2, 2004-1 CB 269, A-34.<br /> <br /> </div>

<div class="Section1">The definition of wages for purposes of the federal unemployment tax (FUTA) does not include any payment made to or for the benefit of an employee if it is reasonable to believe that the employee will be able to exclude the payment from income under IRC Section 106(d), which deals with contributions to HSAs.<a href="#_ftn1" name="_ftnref1">¹</a></div><br /> <div class="Section1"><br /> <br /> Unfortunately, a similar change was not made to IRC Section 3121(a) with respect to FICA. The IRS has stated, however, that employer contributions to an HSA are not subject to withholding from wages for income tax or subject to the Federal Insurance Contributions Act (FICA), the Federal Unemployment Tax Act (FUTA), or the Railroad Retirement Tax Act.<a href="#_ftn2" name="_ftnref2">²</a> A similar statement has been made by the Joint Committee on Taxation.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>.     IRC § 3306(b)(18).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.     Notice 2004-2, 2004-1 CB 269, A-19.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.     General Explanation of Tax Legislation Enacted in the 104th Congress (JCT-12-96), n. 1642, p. 324.<br /> <br /> </div>

<div class="Section1"><br /> <br /> Yes, the IRC provides an exception to the comparability rules that allows, but that does not require, employers to make larger contributions to HSAs of non-highly compensated employees than to HSAs of highly compensated employees.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> Regulations provide that employers may make larger HSA contributions for non-highly compensated employees who are comparable participating employees than for highly compensated employees who are comparable participating employees.<a href="#_ftn2" name="_ftnref2">²</a> However, the reverse does not apply: employer contributions to HSAs for highly compensated employees who are comparable participating employees may <em>not</em> be larger than employer HSA contributions for non-highly compensated employees who are comparable participating employees.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> Comparability rules continue to apply with respect to contributions to HSAs of all non-highly compensated employees and all highly compensated employees. Thus, employers must make comparable contributions for a calendar year to the HSA of each non-highly compensated comparable participating employee and each highly compensated comparable participating employee.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>. IRC &sect; 4980G(d); Preamble, TD 9457, 74 Fed. Reg. 45994, 45995 (9-8009); see Treas. Reg. &sect; 54.4980G-6.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>. Treas. Reg. &sect; 54.4980G-6, Q&amp;A-1.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>. Treas. Reg. &sect; 54.4980G-6, Q&amp;A.<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>. Treas. Reg. &sect; 54.4980G-6, Q&amp;A-1.<br /> <br /> </div></div><br />