Employers ditching their group policies and forcing employees to shop the state-based and federally facilitated exchanges, has been a big concern with the Obamacare rollout, especially in low-wage jobs where people are most likely to be eligible for subsidies. And, indeed, it has been happening. Some employers have even paid employees to shop for health insurance on their own.
The legality of this practice depends on whether or not an employer gives employees pre-tax or taxable funds to buy health insurance.
The IRS prohibits employers from giving (or reimbursing) employees pre-tax funds to buy health insurance on their own—through the state-based and federally facilitated exchanges or private marketplaces alike.1 This practice may result in a $100 per day excise tax per applicable employee, according to an IRS Q&A released in May 2014.2
There has been a lot of misinformation swirling about this practice. Dave Keller, Chief Marketing Officer of IHC Specialty Benefits, warns that some companies continue to advise employers that it is okay and they can help them get around or deal with the IRS.
Nothing prevents employers from paying employees extra taxable income to buy health insurance. Of course, they have no control over whether or not employees actually use this money to purchase health insurance coverage.
Giving employees extra taxable compensation to purchase health insurance has its pros and cons.
On the plus side:
- Employees receive extra money each month, which may be used to pay his or her health insurance premium
- If the employee’s income is 100 to 400 percent of the federal poverty level, he or she may qualify for a premium tax credit if exchange-based coverage is purchased—and possibly cost-sharing subsidies if his or her income is up to 250 percent of federal poverty and he or she purchases a silver plan
- Employees get to pick a health insurance plan that best fits his or her needs rather than receiving the limited options an employer selects
As far as cons go, there are two key things to consider:
- Extra funds given to employees for use on health insurance premiums is taxable income, which means if someone is on the cusp of subsidy eligibility, the extra money could push their income over the threshold and mean they no longer qualify for financial assistance.
- There are tax consequences. Again, the extra money given to employees is taxable as opposed to a typical group insurance arrangement in which health insurance premiums are paid pre-tax.
What if the additional compensation exceeds an employee’s premium amount?
As stated above, an employer cannot force an employee to use extra, taxable compensation to buy health insurance. Furthermore, employers cannot be certain how much each employee’s premium will be, which means it is possible that after taxes the funds given to an employee may exceed what he or she will pay in monthly premium.
Employees could put those funds into a health savings account and use them for qualified medical expenses. HSA funds roll over from year to year, which means they may be used to pay for health care in the years to come. HSA funds are deductible from taxable income at the year’s end.
HSA contribution limits for 2014 are as follows33:
- $3,300 for individuals
- $6,550 for families
Furthermore, the HSA must be paired with a high-deductible health insurance plan. In 2014, the IRS defines a high deductible as no lower than4:
- $1,250 for individuals—annual out-of-pocket expenses including the deductible cannot exceed $6,350
- $2,500 for families—annual out-of-pocket expenses including the deductible cannot exceed $12,700
Additional funds might also be used to buy supplemental health insurance products such as critical illness insurance and dental insurance, among others.
Aren’t employers required to provide access to health insurance?
Starting in 2015, employers with 50 or more full-time equivalent employees and are required by law to offer affordable health insurance that meets a minimum level of coverage to their employees or face a tax penalty known as the employer shared responsibility payment.5 This rule will not apply to smaller employers.
It is important to note that individuals who do not buy minimum essential health insurance on or away from an exchange and do not qualify for an exemption from having coverage may owe the individual shared responsibility payment tax penalty.
Other employee health options for small business owners
Small business owners can enroll employees in group coverage through the federally facilitated SHOP Marketplace at HealthCare.gov or their state-based exchange. They can choose a contribution level, provide multiple health insurance plan options and potentially receive federal tax credits if they meet certain criteria. Visit healthcare.gov/marketplace/shop/ and select your state to learn how to enroll your employees.
Furthermore, small group health insurance plans are available in the private marketplace through agents and brokers.
Employers and employees with questions about the Affordable Care Act and its tax implications should contact an accountant or financial adviser.
For more information on purchasing individual health insurance plans or supplemental products such as hospital insurance and dental insurance, call 888-839-7679 to talk to a licensed health insurance agent.