Small Business Health Care Tax Credit Questions and Answers: Determining FTEs and Average Annual Wages
Q. How is the number of FTEs determined?
A. Add up the total hours of service for which the employer pays wages to employees during the year (but not more than 2,080 hours for any employee). Divide by 2,080. If the result is not a whole number, round to the next lowest whole number. (If the result is less than one, round up to one FTE). See questions below for information on which employees are counted.
An employee’s hours of service include each hour for which he or she is paid, or entitled to payment, during the employer’s tax year. Add each hour of paid leave (no more than 160 hours of service are required to be counted for an employee on account of any single continuous period of paid leave).
Three ways to calculate:
(1) determine actual hours of service from records of hours worked and hours for which payment is made or due, including hours for paid leave;
(2) use a days-worked equivalency whereby the employee is credited with 8 hours of service for each day for which payment is made or due including days of paid leave; or
(3) use a weeks-worked equivalency whereby the employee is credited with 40 hours of service for each week for which payment is made or due including weeks of paid leave.
Employers may apply different methods for different classifications of employees, if the classifications are reasonable and consistently applied. For example, it is permissible for an employer to use method 1 for all hourly employees and method 3 for all salaried employees. Employers may change the method for calculating employees’ hours of service for each taxable year.
Example 1: For the 2010 tax year, an employer’s payroll records indicate that an employee worked 2,000 hours and was paid for an additional 80 hours on account of vacation, holiday and illness. In calculating hours of service, the employer uses a method that counts hours actually worked.
Employee A must be credited with 2,080 hours of service (2,000 hours worked and 80 hours for which payment was made or due).
Example 2: For the 2010 tax year, an employee worked 49 weeks, took two weeks of vacation with pay, and took one week of leave without pay. In calculating hours of service, the employer uses the weeks-worked equivalency method.
Employee B must be credited with 2,040 hours of service (51 weeks multiplied by 40 hours per week).
Example 3: For the 2010 tax year, an employer pays five employees wages for 2,080 hours each, three employees wages for 1,040 hours each, and one employee wages for 2,300 hours. The employer uses a method that counts hours actually worked.
The employer’s FTEs would be calculated as follows:
Total hours not exceeding 2,080 per employee is 15,600 hours:
10,400 hours for the five employees paid for 2,080 hours each (5 x 2,080)
3,120 hours for the three employees paid for 1,040 hours each (3 x 1,040)
2,080 hours for the one employee paid for 2,300 hours (lesser of 2,300 and 2,080)
Based on 15,600 hours of service, the employer has seven FTEs (15,600 divided by 2,080 = 7.5, rounded to the next lowest whole number).
Example 4: For the 2010 tax year, an employer has 26 FTEs with average annual wages of $23,000 each. Only 20 of the employees are enrolled in the employer’s health insurance plan.
The hours of service and wages of all employees are taken into consideration to determine whether the employer is qualified for the credit. Because the employer does not have fewer than 25 FTEs for the tax year, the employer is not qualified.
Q. How is the amount of average annual wages determined?
A. Add up the total wages paid by the employer during the tax year . Divide by the number of FTEs for the year. Round down the result to the nearest $1,000 (if not a multiple of $1,000). Include only wages paid for hours of service (see the question, “How is the number of FTEs determined?” on this page). Use wages as defined for purposes of the Federal Insurance Contributions Act (FICA) (without regard to the wage base limitation). See questions below for information on which employees are counted.
Example 1: For the 2010 tax year, an employer pays a total of $224,000 in wages to employees and has 10 FTEs.
The employer’s average annual wages are $22,000 ($224,000 divided by 10 = $22,400, rounded down to the nearest $1,000).
Q. How are average annual wages and FTEs calculated when the employer has a short taxable year?
A. In accordance with general accounting principles, average annual wages and FTEs may be pro-rated (or annualized) in calculating the section 45R credit. For example, if a small employer has been in business (and paying premiums) for 6 months during its first taxable year, it may pro-rate the employee hours worked and wages earned to reflect the 6 months the employer has been in operation.
Q. Can an employer with 25 or more employees qualify for the credit if some of its employees are part-time?
A. Yes. Because the limitation on the number of employees is based on FTEs, an employer with 25 or more employees could qualify for the credit if some of its employees work part-time. For example, an employer with 46 half-time employees (meaning each employee is paid wages for 1,040 hours) has 23 FTEs and therefore may qualify for the credit.
Q. Do seasonal workers count?
A. Generally, no. Seasonal workers are not included in the FTE and wage calculation unless they work for the employer more than 120 days during the tax year. However, premiums paid by the employer on behalf of seasonal employees may be counted in determining the amount of the employer’s credit.
Q. Are leased employees counted?
A. Yes, leased employees (as defined in section 414(n)) are counted in the FTE and wage calculation. However, premiums for health insurance coverage paid by a leasing organization are not taken into account in computing the service-recipient’s credit.
Q. If an owner of a business also provides services to the business, does the owner count as an employee for purposes of the credit?
A. Generally, no. A sole proprietor, a partner in a partnership, a shareholder owning more than 2 percent of an S corporation, and any owner of more than 5 percent of other businesses is not considered an employee for purposes of the credit.
Q. Do family members of a business owner who work for the business count as employees for purposes of the credit?
A. Generally, no. A family member of any of the business owners or partners listed in the question, “If an owner of a business also provides services to the business, does the owner count as an employee for purposes of the credit?” on this page, or a member of such a business owner’s or partner’s household, is not considered an employee for purposes of the credit. Neither their wages nor their hours are counted in determining the number of FTEs or the amount of average annual wages, and premiums paid on their behalf are not counted in determining the amount of the credit.
For this purpose, a family member is defined as a child (or descendant of a child); a sibling or step-sibling; a parent (or ancestor of a parent); a step-parent; a niece or nephew; an aunt or uncle; or a son-in-law, daughter- in-law, father-in-law, mother-in-law, brother-in-law or sister-in-law. In addition, spouses of certain business owners are not considered employees for purposes of the credit. Specifically: the employee-spouse of a shareholder who owns more than 2 percent of the stock of an S corporation; the employee-spouse of an owner of more than 5 percent of a business; the employee-spouse of a partner owning more than a 5 percent interest in a partnership; and the employee-spouse of a sole proprietor.
Q. How is eligibility for the credit determined if the employer is a member of a controlled group or an affiliated service group?
A. Members of a controlled group (e.g., businesses with the same owners) or an affiliated service group (e.g., related businesses where one performs services for the other) are treated as a single employer for purposes of the credit. For example, all employees of the controlled group or affiliated service group, and all wages paid to employees by the controlled group or affiliated service group, are counted in determining whether any member of the controlled group or affiliated service group is a qualified employer. Rules for determining whether an employer is a member of a controlled group or an affiliated service group are provided under Internal Revenue Code (IRC) sections 414(b), (c), (m), and (o).
Example: A taxpayer owns 100 percent of a sole proprietorship and files a Schedule C. The taxpayer also owns at least 80 percent of the voting power or value of the shares of an S Corporation. Even if the sole proprietorship and the S Corporation individually meet the requirements of IRC 45R, IRC 414 and related regulations provide that there is common control under IRC 1563(a) and when there is common control, the taxpayer must calculate their credit including the employees, their wages and premiums paid for all entities as one entity.
Q. Can a tax-exempt organizations described in section 501(c) include a minister in its calculation when determining eligibility for the small business health care tax credit?
A. The answer depends on whether, under the common law test for determining worker status, the minister is considered an employee of the tax-exempt organization or self-employed. If the minister is an employee, he or she is taken into account in determining an employer’s FTEs for purposes of the health care tax credit. Also, premiums paid by the employer for the health insurance coverage of a minister who is an employee can be taken into account in computing the credit, subject to limitations on the credit. If the minister is self-employed, he or she is not taken into account in determining an employer’s FTEs or premiums paid.
Q. Are the wages of a minister taken into account when computing average annual wages for purposes of determining eligibility for the credit?
A. No. Compensation paid to ministers who are common law employees for duties performed in the exercise of their ministry is not subject to FICA taxes and is not a wage as defined in section 3121(a). Thus, the wages of a minister who is a common law employee are not taken into account.
- Who Gets the Tax Credit
- Calculating the Credit
- How to Claim the Credit
- Transition Relief for Tax Years Beginning in 2010