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Small Business Health Care Tax Credit Questions and Answers: Calculating the Credit

Effect of Sequestration on Small Business Health Care Tax Credit - Tax-Exempt Employers Only

Due to sequestration, refund payments issued to certain small tax-exempt employers claiming the refundable portion of the Small Business Health Care Tax Credit under Internal Revenue Code section 45R, are subject to sequestration. This means that refund payments processed on or after Oct. 1, 2014, and on or before Sept. 30, 2015, issued to a tax-exempt taxpayer claiming the Small Business Health Care Tax Credit under section 45R will be reduced by the fiscal year 2015 sequestration rate of 7.3 percent (regardless of when the original or amended tax return was received by the IRS). The sequestration reduction rate will be applied unless and until a law is enacted that cancels or otherwise impacts the sequester, at which time the sequestration reduction rate is subject to change.  Sequestration only affects the refundable portion of the Small Business Health Care Tax Credit filed by tax-exempt employers.  Sequestration does not impact Small Business Health Care Tax Credit claims by non-tax-exempt employers, as the credit is not a refundable credit for non-tax-exempt employers.

Affected taxpayers will be notified through correspondence that a portion of their requested payment was subject to the sequester reduction and the amount.


Q12. What expenses count toward the credit?

A12. Beginning in 2014, only premiums paid by the employer for employees enrolled in a qualified health plan (QHP) offered through a Small Business Health Options Program (SHOP Marketplace) are counted when calculating the credit. For taxable years 2010 through 2013, the employer may count premiums paid by the employer for health insurance coverage under a qualifying arrangement. See the “What is a qualifying arrangement?” question on this page. Employer contributions to health reimbursement arrangements (HRAs), health flexible spending arrangements (FSAs) and health savings accounts (HSAs) are not taken into account for purposes of determining premium payments by the employer. In SHOP Marketplaces where employers have the option of paying for some or all of any employee tobacco surcharges , these amounts are not included in premiums for purposes of calculating the uniform percentage requirement, nor are they treated as premium payments for purposes of the credit.

Q13. What if the employer only pays a portion of the premiums?       

A13. If the employer pays a portion of the premiums and the employees pay the rest, only the portion paid by the employer is counted in calculating the credit. For example, if an employer pays 80 percent of the premiums, and employees have the other 20 percent taken out of their pay, only the 80 percent paid by the employer counts. Premiums paid through a salary reduction arrangement under a section 125 cafeteria plan are not treated as employer-paid premiums for purposes of the credit. Premiums paid with employer-provided flex credits that employees may elect to receive as cash or as a taxable benefit are treated as paid pursuant to a salary reduction arrangement under a section 125 cafeteria plan (and so are not treated as employer-paid premiums for purposes of the credit). 

Q14. Is there a limit on the premiums that may be counted? 

A14. Yes, in certain situations. In calculating the credit, the employer’s premium payments are limited to the premium payments the employer would have made if the average premium for the small group market in the rating area in which the employee enrolls for coverage were substituted for the actual premium paid by the employer. This means that an employer must compare the actual premiums paid against the average premium table provided by HHS for their rating area and use the lesser of the two amounts. If an employer pays only a percentage of the premiums and employees pay the rest, the amount compared against the average premium is the percentage paid by the employer. For example, if an employer pays 80% of the premiums and employees have the other 20% taken out of their pay, the 80% paid by the employer is compared against 80% of the amount listed in the average premium table. The lesser amount is used in calculating the credit. 

Example: An eligible small employer offers a health insurance plan with employee-only and family coverage. The employer has nine FTEs with average annual wages of $23,000. Four employees are enrolled in employee-only coverage and five are enrolled in family coverage. The employer pays 50% of the premiums for all employees enrolled in employee-only coverage and 50% of the premiums for all employees enrolled in family coverage. The employee is responsible for the remainder in each case. The premiums are $6,000 a year for employee-only coverage and $14,000 a year for family coverage. The average premium for the small group market in the employer’s state is $5,000 for employee-only coverage and $12,000 for family coverage

The employer’s premium payments for each employee ($3,000 for employee-only coverage and $7,000 for family coverage) exceed 50% of the average premium for the small group market in the employer’s rating area ($2,500 for employee-only coverage and $6,000 for family coverage).

Number of employees

4

5

Type of coverage

Employee-only

Family

Total premiums

6,000

14,000

State Average Premium

5,000

12,000

Employer pays 50%

3,000

7,000

50% of State Average Premium

2,500

6,000

The amount of premiums paid by the employer for purposes of computing the credit equals $40,000 [(4 x $2,500) plus (5 x $6,000)].         

Q15. How is the average premium for the small group market determined, and where can employers find a listing of the average premiums each year?

A15. The IRS works with the Department of Health and Human Services (HHS) to obtain the average premium figures for the Small Employer Health Care Tax Credit each year. For years 2010 through 2013, the IRS publishes this information in the Instructions for Form 8941, Credit for Small Employer Health Insurance Premiums. For years beginning in 2014, the average premium figures will be found on the HHS website.

Q16. What if an employer has employees in multiple states?

A16. Beginning in 2014, the employer applies the average premium for each employee based on the rating area where the employee enrolls for coverage in a SHOP Exchange. For years 2010 through 2013, the employer applies the average state premium for each employee based on the state where the employee works.

Q17. What is the maximum credit for an eligible small employer who is not a tax-exempt organization?

A17. For taxable years beginning in 2014 and forward, the maximum credit is 50% of the employer’s premium payments made on behalf of its employees under a qualifying arrangement for a QHP offered through a SHOP Marketplace. For taxable years beginning in 2010 through 2013, the maximum credit is 35% of the employer’s premium payments made on behalf of its employees for health insurance coverage under a qualifying arrangement. See the “What is a qualifying arrangement?” question on this page.

Q18. What is the maximum credit for a tax-exempt eligible small employer?

A18. For taxable years beginning in 2014 and forward, the maximum credit is 35% of the tax-exempt employer’s premium payments made on behalf of its employees under a qualifying arrangement for a QHP offered through a SHOP Marketplace. For taxable years beginning in 2010 through 2013, the maximum credit is 25% of the employer’s premium payments made on behalf of its employees for health insurance coverage under a qualifying arrangement. See the “What is a qualifying arrangement?” question on this page. The credit is refundable for tax-exempt employers. However, the amount of the credit cannot be more than the total amount of income and Medicare tax (i.e., hospital insurance) the employer is required to withhold from employees’ wages for the year and the employer share of Medicare tax on employees’ wages for the year.

Q19. What is a qualifying arrangement?

A19. A qualifying arrangement is one where an eligible small employer pays premiums for each employee enrolled in health care coverage offered by the employer in an amount equal to a uniform percentage (not less than 50%) of the premium cost of the coverage. See the “How is the uniform percentage requirement satisfied?” question on this page.

Q20. How is the uniform percentage requirement satisfied?

A20. To satisfy the requirements for the credit, an eligible small employer must generally pay an amount equal to least 50% of the premium for each employee enrolled in coverage. The rules are different depending on whether the premium established is based upon list billing or composite billing. The rules may also be different for employee-only coverage, dependent coverage and family coverage, and whether the employer offers just one plan or more than one plan. See the “What is composite and list billing?” question on this page.

Q21. What is composite and list billing?

A21. Composite billing is a system of billing under which a health insurer charges a uniform premium for each of the employer’s employees or charges a single aggregate premium for the group of covered employees that the employer may then divide by the number of covered employees to determine the uniform premium. In contrast, the term list billing is a billing system under which a health insurer lists a separate premium for each employee based on the age of the employee or other factors.

Q22. If an employer offers just one plan to its employees using composite billing, how can the uniform percentage requirement be met?

A22. For an employer offering one plan under a composite billing system with only employee-only coverage, the uniform percentage requirement is met if an eligible small employer pays the same amount for each employee and that amount is equal to at least 50% of the premium for employee-only coverage for each employee enrolled in coverage. 

If the employer offers one plan under a composite billing system with different tiers of coverage, for example, both employee-only and family coverage, for which different premiums are charged, the uniform percentage requirement is satisfied if the eligible small employer either: (1) pays the same amount for each employee enrolled in that tier of coverage and that amount is equal to at least 50% of the premium for that tier of coverage, or (2) pays an amount for each employee enrolled in the more expensive tiers of coverage that is the same for all employees and is no less than the amount that the employer would have contributed toward employee-only coverage for that employee.

Example: For the 2014 taxable year, Employer has nine FTEs with average annual wages of $23,000. Employer offers one plan under a composite billing system with different tiers of coverage. Six employees are enrolled in employee-only coverage ($8,000 per year) and three employees are enrolled in family coverage ($14,000 per year). Employer pays 50 percent of the premium for employee-only coverage for each employee enrolled in employee-only or family coverage (50 percent x $8,000 = $4,000 for each employee).

Number of employees

6

3

Type of coverage

Employee-only

Family

Total premiums

8,000

14,000

Employer pays

4,000

4,000

Employer pays $4,000 toward the premium for each of the six employees enrolled in employee-only coverage and $4,000 of the premium for each of the three employees enrolled in family coverage. Employer satisfies the uniformity requirement.

Q23. If an employer offers just one plan to its employees using list billing, how can the uniform percentage requirement be met?

A23. For an employer offering one plan under a list billing system with only employee-only coverage, the eligible small employer may convert the different individual premiums into a composite rate, referred to as an employer-computed composite rate. This is an average rate determined by adding the premiums for that tier of coverage for all employees eligible to participate in the employer’s plan (whether or not the eligible employee enrolls in coverage under the plan or in that tier of coverage under the plan) and dividing by the total number of such eligible employees. The uniform percentage requirement is met if the eligible small employer either:  (1) pays an amount equal to a uniform percentage (not less than 50%) of the premium charged for each employee, or (2) if any employee contribution is required, each enrolled employee pays a uniform amount toward the employee-only premium that is no more than 50% of the employer-computed composite rate for employee-only coverage.

If the employer offers one plan under a list billing system with different tiers of coverage, for example both employee-only and family coverage, for which different premiums are charged, the uniform percentage requirement is satisfied if the eligible small employer pays toward the premium for each employee covered under each tier of coverage an amount equal to or exceeding the amount the employer would have contributed with respect to that employee for employee-only coverage, calculated either based on the actual premium that would have been charged by the insurer for that employee for employee-only coverage, or based on the employer-computed composite rate for employee-only coverage, and the employer premium payments within the same tier are uniform in percentage or amount. Alternatively, the eligible small employer may satisfy the uniform percentage requirement by meeting the uniform percentage requirement separately for each tier of coverage and substituting the employer-computed composite rate for that tier of coverage for the employer-computed composite rate for employee-only coverage.

Example: For the 2014 taxable year, Employer has four FTEs with average annual wages of $23,000. Employer offers one plan under a list billing system with different tiers of coverage. Employer receives a list billing quote for each of the four employees. For Employee A, the employee-only premium is $3,000 per year, and the family premium is $8,000. For Employees B, C and D, the employee-only premium is $5,000 per year and the family premium is $10,000. Employer computes an employer-computed composite employee-only rate of $4,500 ($18,000 / 4). Employer offers to make contributions such that each employee would need to pay $2,000 of the premium for employee-only coverage. Under this arrangement, Employer would contribute $1,000 toward employee-only coverage for Employee A and $3,000 for employee-only coverage for Employees B, C and D. The total employee-only premium for the four employees is $18,000 ($3,000 + (3 x $5,000). In the event an employee elects family coverage, Employer would make the same contribution ($1,000 for Employee A or $3,000 for Employees B, C and D) toward the family premium and satisfy the uniform percentage requirement.

Q24: Are employer premiums paid toward dependent coverage included in the calculation?  Is the employer required to pay at least 50% of dependent coverage to be eligible to claim the credit?

A24:  An employer may include amounts paid toward dependent coverage when determining employer premiums paid.   To get the credit, an employer is not required to pay for all or even a portion of dependent coverage, but to the extent the employer pays these amounts, they may be included in employer premiums paid when calculating the credit.  Additionally, the employer will not fail to satisfy the uniform percentage requirement by contributing different amounts toward dependent coverage under I.R.C. § 45R.

Q25:  How do wellness programs or tobacco surcharges affect the uniformity requirement?

A25. If an employer’s plan provides a wellness program, for purposes of meeting the uniform percentage requirement any increase in the employer contribution that may occur due to an employee’s participation in the wellness program is not taken into account in calculating the uniform percentage requirement.  However, for purposes of computing the credit, the final regulations provide the employer contributions are taken into account, including those contributions made due to an employee’s participation in a wellness program.   In SHOP Marketplaces where employers have the option of paying for some or all of any employee tobacco surcharges, these amounts are not included in premiums for purposes of calculating the uniform percentage requirement (nor are they treated as premium payments for purposes of the credit).  If employers do not have the option of paying for any portion of employee tobacco surcharges through the SHOP Exchange, the uniform percentage requirement is applied without regard to any tobacco surcharges imposed upon the employee.

Q26. If an employer offers more than one plan to its employees, how can the uniform percentage requirement be met?

A26. If an employer offers more than one plan to its employees, the uniform percentage requirement may be satisfied in one of two ways. The first is on a plan-by-plan basis, meaning that the employer’s premium payments for each plan must individually satisfy the uniform percentage requirement. The amounts or percentages of premiums paid toward each plan do not have to be the same, but they must each satisfy the uniform percentage requirement if each plan is tested separately. 

The other permissible method to satisfy the uniform percentage requirement is through the reference plan method. Under the reference plan method, the employer designates one of its plans as a reference plan. Then the employer determines a level of employer contributions for each employee such that, if all eligible employees enrolled in the reference plan, the contributions would satisfy the uniform percentage requirement as applies to that reference plan, and the employer allows each employee to apply the minimum amount of employer contribution determined necessary to meet the uniform percentage requirement toward the reference plan or toward coverage under any other available plan.

Example: Employer has four FTEs with average annual wages of $23,000. Employer offers two plans under a composite billing system with different tiers of coverage. Plan X is $4,000 per year for employee-only coverage and $10,000 for family coverage, and Plan Y is $7,000 per year for employee-only and $12,000 for family coverage. Employer designates Plan X as the reference plan. Employer offers to pay 50% of the premium for employee-only coverage under Plan X, which is $2,000. In the event that an employee elects family coverage under Plan X or either employee-only or family coverage under Plan Y, Employer would make the same contribution ($2,000) toward that coverage and satisfy the uniform percentage requirement.

Q27. What effect do state credits and state subsidies for health insurance have on the amount of the federal health care tax credit?

A27. Some states offer tax credits or a premium subsidy to certain small employers who provide health insurance to their employees. Generally, the premium subsidy is in the form of direct payments to the employer or to the employer’s insurance company. The effect these credits and subsidies on an employer’s federal health care tax credit depends on whether the direct payment goes to the employer or the insurance company.

If a state tax credit or a premium subsidy is paid directly to the employer, the effect on calculation of the federal health care tax credit in general is zero. If a state makes payments directly to an insurance company, the state is treated as making these payments on behalf of the employer for purposes of the uniform percentage requirement and the premium payments made by the state are treated as paid by the employer for purposes of calculating the credit. Note, however, that the amount of the federal health care tax credit cannot exceed the amount of the premiums actually paid by the employer.   

A state-administered program (such as Medicaid) may make payments directly to a health care provider or insurance company on behalf of eligible individuals and their families. Those payments are not taken into account in determining the employer’s federal health care tax credit.  

Q28. Do church welfare benefit plans qualify?  

A28. For taxable years 2014 and forward, employers are required to offer a QHP to its employees through a SHOP Marketplace to claim the credit.

Related Items:

Return to Small Business Health Care Tax Credit for Small Employers.

 

Page Last Reviewed or Updated: 06-Oct-2014