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New Small Business Health Care Tax Credit
The IRS has issued detailed guidance on the small employer health insurance credit created by the Patient Protection and Affordable Care Act (Affordable Care Act, P.L. 111-148). The guidance adopts a liberal approach to the statutory requirements, including three alternative methods for figuring total hours of service, and also explains how small employers claim the credit if their State provides a credit or subsidy for employee health coverage.
Background
Under the Affordable Care Act, effective for tax years beginning after Dec. 31, 2009, an eligible small employer (ESE) may claim a tax credit for nonelective contributions to purchase health insurance for its employees. (Code Sec. 45R) An ESE is an employer with no more than 25 full-time equivalent employees (FTEs) employed during its tax year, and whose employees have annual full-time equivalent wages that average no more than $50,000. However, the full credit is available only to an employer with 10 or fewer FTEs and whose employees have average annual full-time equivalent wages from the employer of not more than $25,000. Aggregation rules apply in determining the employer.
The contributions must be provided under a qualifying arrangement, i.e., one requiring the ESE to make a nonelective contribution for each employee who enrolls in certain defined qualifying health insurance offered by the ESE equal to a uniform percentage (not less than 50%) of the premium cost of the qualifying health plan. A transition rule applies for 2010; see below.
The credit is a general business credit, can be carried back for one year and carried forward for 20 years, and can offset alternative minimum tax.
Qualifying health insurance during initial credit phase
For any tax year beginning in 2010, 2011, 2012, or 2013, qualifying health insurance is generally health insurance coverage bought from a State licensed insurance company.
Calculation of credit amount
For tax years beginning before 2014, the credit is equal to the lesser of the following two amounts multiplied by an applicable tax credit percentage:
1. Total nonelective contributions the ESE made on behalf of the employees during the tax year for the qualifying health coverage.
2. Total nonelective contributions the ESE would have paid if each employee were enrolled in a plan that had a premium equal to the average premium for the small group market in the State (or in an area in the State) in which the employer is offering health insurance coverage. Health and Human Services (HHS) determines whether separate average premiums apply for areas within a State and also determines the average premium for a State or sub-State area.
The applicable percentage is 35% for tax years beginning after 2009 and before 2014 (25% for tax exempts) and is 50% for tax years beginning after 2013 (35% for tax-exempts). For exempts, the credit is a refundable tax credit limited to the amount of the employer's payroll taxes (income tax and Medicare tax withheld from employees' wages and the employer share of Medicare tax on employees' wages) during the calendar year in which the tax year begins.
The credit is reduced for an ESE if:
1. It has more than 10 FTEs but not more than 25 FTEs. Find the number of FTEs by dividing (1) the total hours for which the ESE pays wages to employees during the year (but not more than 2,080 hours for any employee) by (2) 2,080.
2. Average wages per employee is between $25,000 and $50,000. Find average annual wages by dividing (a) total wages (as defined for FICA purposes, without regard to the wage base limitation) paid to employees during the ESE's tax year by (2) the number of the FTEs for the year. Round the result down to the nearest $1,000 (if not otherwise a multiple of $1,000).
If an ESE has more than 10 FTEs and average annual wages exceed $25,000, the credit reduction is the sum of the amount of the two reductions above. The Code Sec. 45R credit reduces the employer's Code Sec. 162 deduction for contributions to employees' health insurance coverage.
A sole proprietor, a partner in a partnership, a shareholder owning more than 2% of an S corporation, any owner of more than 5% of other businesses, a family member of any of these individuals, or a member of such a business owner's or partner's household: (1) are not considered employees for Code Sec. 45R purposes, (2) their wages or hours are not counted in determining either the number of FTEs or the amount of average annual wages, and (3) premiums paid on their behalf are not counted in determining the amount of the credit.
In April, IRS issued preliminary guidance on the Code Sec. 45R credit in the form of frequently asked questions (FAQs) posted on its website. New Notice 2010-44 formalizes much of the guidance in April's FAQs, but also contains new guidance as well as clarification of points raised in the FAQs. Here's a summary of the more important aspects of the new Code Sec. 45R guidance:
Hours of service worked
An employee's hours of service for a year include each hour for which an employee is paid, or entitled to payment, for (a) the performance of duties for the employer; and (b) for vacation, holiday, illness, incapacity (including disability), layoff, jury duty, military duty or leave of absence (except that no more than 160 hours of service are required to be counted for an employee on account of any single continuous period during which the employee performs no duties).
In calculating the total number of hours of service which must be taken into account for an employee for the year, the employer may use any of three methods:
1. determine actual hours of service from records of hours worked and hours for which payment is made or due (payment is made or due for vacation, holiday, illness, incapacity, etc.);
2. use a days-worked equivalency where the employee is credited with 8 hours of service for each day for which he would be required to be credited with at least one hour of service under (1), above; or
3. use a weeks-worked equivalency where the employee is credited with 40 hours of service for each week for which he would be required to be credited with at least one hour of service under (1), above.
Finding the number of FTEs
The number of an employer's FTEs is found by dividing (a) the total hours of service, as determined above, credited during the year to employees taken into account for Code Sec. 45R purposes, by (b) 2,080. The result, if not a whole number, is then rounded to the next lowest whole number. In some circumstances, an employer with 25 or more employees may qualify for the credit if some of its employees work part-time. For example, an employer with 46 half-time employees (i.e., they are paid wages for 1,040 hours) has 23 FTEs and, therefore, may qualify for the credit.
All FTEs must be taken into account, even though not all of them are enrolled in the employer's health insurance plan.
Health insurance coverage
For pre-2014 years, health insurance coverage for purposes of the Code Sec. 45R credit means benefits consisting of:
· Medical care (provided directly, through insurance or reimbursement, or otherwise) under any hospital or medical service policy or certificate, hospital or medical service plan contract, or health maintenance organization contract offered by a health insurance issuer.
· Limited-scope dental or vision; long-term care, nursing home care, home health care, community-based care, or any combination thereof.
· Coverage only for a specified disease or illness.
· Hospital indemnity or other fixed indemnity insurance.
· Medicare supplemental health insurance; and certain other supplemental coverage, and similar supplemental coverage provided to coverage under a group health plan.
Health insurance coverage does not include coverage only for accident or disability income insurance, auto medical payment insurance, coverage for on-site medical clinics.
Different types of health insurance plans are not aggregated for purposes of meeting the qualifying arrangement requirement. So, for example, if an employer offers a major medical insurance plan and a stand-alone vision plan, it must separately satisfy the requirements for a qualifying arrangement for each type of coverage. The average premium for the small group market in the State does not apply separately to each type of permissible coverage, but rather provides an overall cap for all health insurance coverage provided by an ESE.
State credits or subsidies for health insurance
Small employers providing health insurance to employees may receive a State tax credit (refundable or nonrefundable), or a State subsidy for part of employees' health insurance premiums. Generally, a premium subsidy is paid either directly to the employer or to the employer's insurance company (or another entity licensed under State law to engage in the insurance business). If the employer gets a State tax credit (whether refundable or nonrefundable), or a premium subsidy paid directly to the employer, then:
· the employer's premium payment is not reduced by the credit or subsidy when determining if it has satisfied the requirement to pay an amount equal to a uniform percentage (not less than 50%) of the premium cost; and
· the maximum amount of the Code Sec. 45R credit is not reduced because of a State tax credit or because of State payments directly to the employer.
Generally, a State that makes payments directly to an insurance company (or another entity licensed under State law to engage in the insurance business) for a part of employee premiums is treated as making these payments on behalf of the employer for purposes of determining whether the employer satisfies the requirement to pay an amount equal to a uniform percentage (not less than 50%) of the premium cost of coverage; and the State premium payments are treated as an employer contribution under Code Sec. 45R for purposes of calculating the credit.
However, the amount of the Code Sec. 45R credit cannot exceed the amount of the employer's net premium payments. For a State tax credit or a State subsidy paid directly to an employer, the employer's net premium payments are found by subtracting the State tax credit or subsidy from the employer's actual premium payments. For a State payment directly to an insurance company (or another entity licensed under State law to engage in the insurance business), the employer's net premium payments are its actual premium payments.
Transition relief for tax year beginning in 2010
For a tax year beginning in 2010, an employer that pays an amount equal to at least 50% of the premium for single (employee-only) coverage for each employee enrolled in coverage is deemed to satisfy the uniformity requirement for a qualifying arrangement, even if the employer does not pay the same percentage of the premium for each employee. Thus, an employer meets the uniformity requirement if it pays at least 50% of single-coverage premiums for each employee receiving single coverage, and, if the employer offers more-expensive coverage (e.g., family or self-plus-one coverage), if it pays an amount for each employee receiving that more expensive coverage that is no less than 50% of the premium for single coverage for that employee (even if it is less than 50% of the premium for the more expensive coverage the employee is actually receiving).
The news release can be viewed on the IRS website at http://www.irs.gov/newsroom/article/0,,id=223577,00.html.
Source: Federal Tax Updates on Checkpoint Newsstand tab 5/18/2010
IR 2010-63; Notice 2010-44, 2010-22 IRB
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