Small businesses can now reimburse employee medical expenses
No Affordable Care Act excise tax on certain plans of small employers
TAX ALERT | December 14, 2016
On Dec. 13, 2016, President Obama signed into law the 21st Century Cures Act, which exempts certain small employer health reimbursement arrangements from the $100 per day excise tax under the Affordable Care Act (ACA). The Cures Act provides requirements for a new qualified small employer health reimbursement arrangement (QSEHRA) effective in 2017 and welcomes transition relief for small employers through 2016.
In 2013, the IRS determined that certain premium reimbursement plans, health reimbursement arrangements (HRAs), and other types of medical expense reimbursement plans offered by employers to help employees pay for health insurance premiums or medical expenses did not comply with the ACA. Large employers had to terminate or modify their arrangements for 2014 to avoid an excise tax of $100 per day per affected individual. Small employers with premium reimbursement plans were given until June 30, 2015, to comply. To avoid the excise tax, most employers terminated their arrangements.
After Dec. 31, 2016, small employers can once again establish reimbursement arrangements for medical premiums and expenses. These arrangements will not be subject to the $100 per day excise tax as long as they meet all of the following QSEHRA requirements.
- The arrangement is established by a small employer that had, on average, less than 50 full-time and full-time equivalent employees in the prior calendar year. For purposes of determining the 50-employee threshold, aggregate rules apply to combine companies that have common owners or services.
- The employer does not offer a group health plan to any of its employees.
- All employees must be eligible to participate except that the employer can exclude employees with less than 90 days of service, certain part-time and seasonal employees, union employees, employees under age 25, and non-resident aliens.
- The arrangement is funded solely by the employer with no employee contributions.
- The employer offers the arrangement on the same terms to all eligible employees. The QSEHRA can meet this requirement even if an employer’s reimbursement limit varies based on the cost of health insurance. Thus, an employer can provide a greater reimbursement to an employee who is older or is covering multiple family members.
- The QSEHRA reimburses only qualified medical expenses such as out-of-pocket costs for medical care and employee premiums for individual health insurance policies. It appears that Medicare premiums and TRICARE expenses would also be reimbursable. Employees will need to provide documentation for all expenses.
- The annual reimbursement is limited to $4,950 for employee-only coverage and $10,000 for family coverage. These maximum limits are prorated for employees participating in the QSEHRA for less than 12 months of the calendar year and will be adjusted for inflation annually.
- The employer provides an annual written notice (90 days in advance of the plan year) to all eligible employees about the QSEHRA including the dollar amount of reimbursements available. Failure to provide the notice can trigger a penalty on the employer of $50 per employee, up to $2,500 per year. For 2017 only, employers have up to 90 days after the enactment of the new law to deliver the notice.
- The employer reports the QSEHRA reimbursement on the employee’s Form W-2 either as a taxable or nontaxable item. The reimbursement will be taxable if the employee does not have minimum essential health coverage, such as a major medical health insurance policy.
Other QSEHRA considerations
Employees who purchase health insurance through the Marketplace/Exchange will receive a smaller premium tax credit toward the cost of that insurance due to their participation in a QSEHRA. Employees who terminate employment or experience certain other life events will lose their QSEHRA coverage since it is not subject to the COBRA continuation rules.
Excise tax relief for 2015 and 2016
In 2015, small employers reimbursing employee premiums for individual health insurance or Medicare were granted excise tax relief until June 30, 2015, pursuant to Notice 2015-17. The new law now extends that excise tax relief to Dec. 31, 2016. Consequently, these small employers will not be subject to the $100 per day excise tax for any plan year beginning before Jan. 1, 2017.
Small employers without a group health plan that reimburse employees for medical expenses other than premiums were not granted relief under Notice 2015-17. Therefore, it is unclear how the new law affects them for years prior to Jan. 1, 2017. Hopefully, the IRS will address this issue.
In addition to the small employer excise tax relief described above, Notice 2015-17 granted excise tax relief for certain other arrangements offered by both large and small employers that reimburse:
- Individual health insurance policies for more than 2 percent of shareholders of S corporations
- Premiums for Medicare and Medicare supplemental policies
- Medical expenses for employees covered by TRICARE
Unfortunately, the new law does not specifically address the status of these types of reimbursement arrangements, and is unclear if they can be continued after 2016 by large employers. In addition, it is unclear whether small employers can continue the above arrangements for select employees rather than establishing a QSEHRA. Time will tell if the IRS continues to grant relief for these types of arrangements.
Because of the ACA, many small employers have been prohibited from using reimbursement arrangements that previously were long-standing and effective methods of providing employees with health care benefits. The new law is a welcome modification to the ACA since it gives small employers excise tax relief plus a method for providing health benefits to their employees via the QSEHRA.