Newland's Business Notes

Tax Credit for Small Employer Health Insurance    

Volume 14 Issue 3 -- May/June 2010

The new Health Care Reform Act (HCRA) provides a tax credit to certain small businesses for health insurance premiums paid in 2010. This is a “credit” against the income tax liability rather than a “deduction” used in computing taxable income. If the credit cannot be fully used in 2010, it can be carried forward to future years, but not back to prior years.

The credit is available to certain small employers who meet the following criteria: (1) number of employees -- 25 or less; (2) average annual wages -- $50,000 or less; (3) maximum credit 2010-2013 -- 35% of health insurance premiums paid; and (4) minimum percentage of premiums paid by employer -- 50% or more before the credit can be claimed, i.e., the employer must pay at least 50% of total health insurance premiums of the employees.

If an employer does not meet the above criteria because it has too many employees  or the average annual salaries are too great, there may be no credit, but attention needs to be given to how employees are counted.  In some cases the actual numbers of employees can exceed 25 and the credit can still be claimed because of the definition of who is an “employee.” 

The definition excludes certain principals such as owner-managers and their families as well as seasonal workers from the “employee count.” For example a 2% (or greater) owner of an S corporation, the head of a regular corporation, the managers and their family members of LLCs, and partners in partnerships do not have to be counted as employees. 

Let’s say ABC Corp has a principal shareholder-president, Mr. Big and three “Big” family members working among a total of 27 employees.  If Mr. Big and the three “Big” family members are subtracted from the total number of employees then the number of eligible employees falls below 25 and ABC may be eligible for the credit.   Similarly, if the “Bigs” are excluded from the “wages” calculation it will be easier to attain lower average annual compensation figures.

For part-time employees, the equivalent of a regular employee needs to be calculated in some instances so that the number of hours worked by part-time employees is equated to the number of hours worked by full-time employees for purposes of the credit. In addition, seasonal workers do not have to be included in the employee count. 

If the business has 10 or fewer employees with average annual compensation of $25,000 or less, then the maximum credit of 100% of health insurance premiums paid is available. The same rules for counting employees and computing average wages apply.  Regardless of size, the 100% credit will not be available unless the premiums paid by the quite small employer are at least 50% of the total amount paid for health insurance premiums for all eligible employees.

If the number of employees exceeds 10 (but less than 25) or the average annual compensation exceeds $25,000, the credit is reduced by an amount which must be separately computed.  Without showing all of the calculations, an example would be XYZ, Inc., which has 12 full-time employees with average wages of $30,000 and pays $96,000 in premiums in 2010. According to IRS guidance, the credit reduction is $11,200, which reduces the maximum credit of  $33,600 (35% times $96,000) to $22,400 ($33,600 - $11,200).

Health insurance premiums paid in 2010 before the law was signed can be included in the calculations of total health premiums paid for the year 2010. The credit, if available, results in a reduction of the amount of insurance premium deductions for the employer. For example, if the employer paid $80,000 of insurance premiums in 2010 and had a credit of $28,000, then the insurance premium deduction would be reduced from $80,000 to $52,000 ($80,000 - $28,000).

Can tax exempt organizations with employees who receive health benefits qualify for the credit?  Yes.  Since such organizations do not pay income tax, the credit is a “refundable credit” meaning they receive the credit in cash from the IRS.

If you have questions about the eligibility for, or calculation of, the 2010 HCRA tax credit, you can review PDF files containing a detailed outline of a speech prepared by us for various organizations in Virginia or a set of Frequently Asked Questions prepared by the IRS guidance.

Copyright 2010

Published by the law firm of Newland & Associates, PLC
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