Qualified Employer Health Reimbursement Arrangement

<div class="Section1">The 21st Century Cures Act introduced a new health reimbursement arrangement (HRA) that allows small employers to continue to reimburse employees for the cost of individual health insurance premiums. Small business employers are able to offer qualified small employer health reimbursement arrangements (QSEHRAs) beginning in 2017 without incurring ACA penalties. QSEHRAs allow a small employer who is not an applicable large employer under the ACA (i.e., one that has fewer than 50 full-time employees) to reimburse employees for the purchase of individual health insurance policies using an HRA if the small employer does not also offer its employees group health coverage.</div><br /> The employer can contribute a maximum of $6,350 in 2025 ($6,150 for 2024, $5,850 for 2023 and $5,450 for 2022) for employees who purchase individual coverage, and a maximum of $12,800 for 2025 ($12,450 for 2024, $11,800 in 2023 and $11,050 for 2022).<a href="#_ftn1" name="_ftnref1">¹</a> if the employee purchases family coverage (both contribution limits are indexed for inflation and pro-rated amounts are used for years in which only partial coverage is offered).<br /> <div class="Section1"><br /> <br /> QSEHRAs must generally be offered on the same basis to all comparable employees, though the employer can exclude employees who have yet to work 90 days, employees who have not reached age 25, employees who are covered by a collective bargaining agreement and employees who are nonresident aliens and have no earned income from U.S. sources. Small business employers who choose to offer QSEHRAs must provide a written notice to employees 90 days before the beginning of the year (the IRS extended the notice deadline for 2017 QSEHRAs<a href="#_ftn2" name="_ftnref2">²</a>) that specifies the amount of the benefit that will be provided by the QSEHRA and informs participating employees that they must inform the health insurance exchanges of the benefit provided by the QSEHRA if the employee intends to apply for premium assistance.<br /> <br /> The notice must also clearly inform the employee that if he or she does not purchase health insurance, ACA penalties may apply and any reimbursements from the QSEHRA may be included in gross income. Small employers must report the QSEHRA coverage on Form W-2, Box 12 (for informational purposes). Further, the employer must provide participating employees with Form 1095-B, and send the same data to the IRS on Form 1094-B.<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>.  Rev. Proc. 2019-44, Rev. Proc. 2020-45, Rev. Proc. 2021-45, Rev. Proc. 2022-34, Rev. Proc. 2023-34.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Notice 2017-20.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>.  21st Century Cures Act, HR 34.<br /> <br /> </div>

<div class="Section1">In order for reimbursements from a QSEHRA to be received income tax-free by the employee, the reimbursements must related to medical expenses and may not constitute funds that the employee would be entitled to receive regardless of his or her medical expenses. Therefore, all claims for reimbursements must be substantiated (no additional substantiation is required if the sponsoring employer pays the insurance premium costs directly to the insurance company) in the same manner as required of health flexible spending accounts (FSAs).<a href="#_ftn1" name="_ftnref1">¹</a> This means that documentation from a third party (such as the insurance company or medical care provider) must be provided.</div><br /> <div class="Section1"><br /> <br /> If reimbursements are mistakenly made when the required substantiation has not been provided, all payments to the employee (whether substantiated or unsubstantiated) on or after the date that the mistaken reimbursement was made are taxable. However, if the employee timely (<em><em>see</em></em> below) substantiates or repays the unsubstantiated amounts with after-tax funds, the QSEHRA will be deemed to have satisfied the substantiation requirements. This same treatment applies if the QSEHRA mistakenly reimburses the employee for non-medical expenses.<br /> <br /> Substantiation or reimbursement of improperly paid QSEHRA funds is deemed to be untimely if paid after the earlier of (a) March 15 of the year following the year in which the error was identified or (b) if the employer’s tax return is under examination by the IRS, the date the employer receives written notice of the error.<a href="#_ftn2" name="_ftnref2">²</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>.  Notice 2017-67; Prop. Treas. Reg. 1.125-6.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Notice 2017-67.<br /> <br /> </div>

<div class="Section1">QSEHRAs are permitted to make reimbursements available ratably, on a month-by-month basis, rather than making the full amount of the QSEHRA benefit available at the beginning of the year.</div><br /> <div class="Section1"><br /> <blockquote><em>Example: </em>Employer provides a QSEHRA with an annual permitted benefit of $3,000 and provides that $250 of that benefit will be available as each month of the year elapses. Employee submits substantiation for $4,000 in qualified medical expenses in January. The QSEHRA may provide that the employee will receive $250 in reimbursements for the claim each month.</blockquote><br /> QSEHRAs are not permitted to impose deductible or other cost-sharing requirements before reimbursements become available. QSEHRAs also may not reimburse employees for expenses incurred before the employer provides the employee with the QSEHRA (for this purpose, medical expenses are considered incurred when the care is received, not when the medical bill is paid). However, premium expenses may be treated as though they were incurred (a) on the first day of each month of coverage, on a pro-rata basis, (b) on the first day of the period of coverage or (c) on the date the premium is paid.<br /> <br /> </div>

<div class="Section1">Generally, permissible reimbursements from a qualified small employer health reimbursement arrangement (QSEHRA) are excluded from the employee’s gross income. However, if all QSEHRA funds are not used by year-end, the employer is not permitted to reimburse the employee with a taxable payment of unused benefits at the end of the year (i.e., a “cash out” is not permitted). If the employer cashes out employees, all payments to all eligible employees under the QSEHRA for the year are included in income and wages.</div>

<div class="Section1">Yes. Eligible employers are permitted to allow QSEHRA participants to pay the remainder of a health insurance policy cost (beyond that which is covered by the QSEHRA) via an after-tax payroll deduction.<br /> <br /> <hr><br /> <br /> <strong>Planning Point:</strong> While allowing an after-tax payroll deduction as a means for covering the remainder of any health insurance policy premium cost is technically permitted, employers must be careful to ensure that they are not endorsing any particular health insurance policy or carrier (in order to avoid the conclusion that the employer is sponsoring a group health plan).<br /> <br /> <hr><br /> <br /> Self-employed individuals are not allowed a deduction for any month in which a family member is provided a QSEHRA that would pay or reimburse premiums or medical expenses of the self-employed individual.<br /> <br /> </div><br />

<div class="Section1">If a qualified small employer HRA (QSEHRA) fails to satisfy the requirements discussed in Q <a href="javascript:void(0)" class="accordion-cross-reference" id=""></a> to Q <a href="javascript:void(0)" class="accordion-cross-reference" id=""></a>, the arrangement will be treated as a group health plan that is subject to Chapter&nbsp;100. As such, any violation becomes subject to a $100 penalty per affected person per day.<a href="#_ftn1" name="_ftnref1">¹</a><div class="Section1"><br /> <br /> For example, a QSEHRA can fail to satisfy the requirements if it is not provided by an eligible employer, if it is not provided to all eligible employees on the same terms, if it reimburses medical expenses without first requiring proof that the individual has minimum essential coverage or if it provides benefits that exceed the annual contribution limit. Failure to provide the required notices does not cause the QSEHRA to fail to be a QSEHRA, but instead triggers application of the penalty discussed in Q <a href="javascript:void(0)" class="accordion-cross-reference" id=""></a>.<br /> <br /> Failing to satisfy the QSEHRA requirements does not cause reimbursements for properly substantiated medical expenses to be included in the employee&rsquo;s income, but if the arrangement is actually designed to reimburse non-medical expenses (even if in addition to medical expense reimbursement), all reimbursements will be included in the employee&rsquo;s income.<br /> <br /> Essentially, all QSEHRA reimbursements will be included in employee income if any of the following are true: (1) the QSEHRA reimburses medical expenses without proper substantiation, (2) the QSEHRA reimburses medical expenses in advance of receiving substantiation or (3) the QSEHRA reimburses non-medical expenses.<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; IRC &sect;&nbsp;4980D.<br /> <br /> </div></div><br />

<div class="Section1">Permissible reimbursements do include reimbursement for an eligible employee’s family member’s health coverage even if the family member’s coverage is separate from the health insurance policy that covers the employee. Further, the QSEHRA may reimburse for group health coverage sponsored by the employee’s spouse, but the reimbursement is taxable to the extent that the spouse’s share of the premiums was paid on a pre-tax basis.</div><br /> <div class="Section1"><br /> <br /> With respect to newly eligible employees, QSEHRA reimbursements may be made as soon as the employee becomes eligible, assuming the employee has satisfied all additional requirements (for example, substantiation) for receiving the reimbursement.<br /> <br /> Unlike certain other types of accounts, QSEHRAs are permitted to reimburse employees for over-the-counter drugs purchased without a prescription without jeopardizing qualification, but these reimbursements are taxable because IRC Section 106(f) only permits them to be excluded if a prescription is obtained.<br /> <br /> </div>

<div class="Section1">Pursuant to IRS guidance, amounts reimbursed under a QSEHRA are not treated as being paid for medical expenses under an accident or health plan unless the individual has minimum essential coverage (MEC) for the month to which the amounts relate. If the QSEHRA mistakenly reimburses an employee for medical expenses incurred during a month when he or she did not have MEC, the reimbursed amounts are included in the employee’s gross income.</div><br /> <div class="Section1"><br /> <br /> A QSEHRA is only permitted to reimburse employees for medical expenses after they have received proof that the employee has MEC. This proof should consist of:<br /> <br /> a document from a third party, such as the insurance company, showing that the individual has MEC (an insurance card, for example) and an attestation from the employee that the coverage is MEC; or<br /> <br /> an attestation by the employee that the employee (and any individual for whom the medical expenses were incurred) has MEC, the date the coverage began and the name of the insurance company providing the coverage. The IRS has provided model attestation language in Appendix B to Notice 2017-67.<br /> <br /> Initially, this proof must be provided with respect to each individual eligible for QSEHRA reimbursement before the QSEHRA first reimburses any expense of that individual. The employer is entitled to rely upon the employee’s attestations unless it has reason to believe the employee or individual does not have MEC.<br /> <br /> In addition to the initial proof, the employee must attest that he or she (and any other relevant individual) has the required MEC (the IRS suggests that this could be made part of the form the employee uses to request reimbursement). The “proof of MEC” requirement applies each year that the QSEHRA is provided (i.e., the “initial proof” must be provided annually).<br /> <br /> If the employee fails to provide the required proof, the QSEHRA is not permitted to reimburse the employee with taxable funds.<a href="#_ftn1" name="_ftnref1">¹</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>.  Notice 2017-67.<br /> <br /> </div>

<div class="Section1">While cash outs are not permitted, the QSEHRA may impose a “run out” period following the actual coverage period where the employee is permitted to submit claims for expenses incurred during the coverage period.</div>

<div class="Section1">Generally, an individual with a high deductible health plan (HDHP) and no other disqualifying health coverage is eligible to contribute to a health savings account (HSA).<a href="#_ftn1" name="_ftnref1">¹</a> If an employee is provided a qualifying small employer HRA (QSEHRA) that reimburses any medical expense, including any cost sharing required by the employee’s health insurance, he or she is disqualified from also contributing to an HSA.</div><br /> <div class="Section1"><br /> <br /> However, if the QSEHRA may only reimburse premium costs, the employee may also contribute to an HSA. Further, the QSEHRA may reimburse for expenses that qualify as permitted insurance or disregarded coverage under IRC Section 223(c) without jeopardizing HSA eligibility.<br /> <br /> When an employer terminates a group health plan that it had provided in favor of providing employees QSEHRAs, the employee can take into account any unreimbursed medical expenses incurred by the employee when covered by the group health plan if he or she later decides to purchase a HDHP (i.e., for purposes of the HDHP deductible).<a href="#_ftn2" name="_ftnref2">²</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 §§ 223(c)(3), 223(c)(1)(B).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>.  Notice 2017-67.<br /> <br /> </div>