Healthcare and taxes, Part 3 Healthcare Tax Credit

By June 16, 2010 Businesses

The President is touting his Small Business Healthcare Tax Credit as one of the many substantial benefits of the new healthcare legislation.  But who actually has less than 10 employees, an employer paid health plan, and salaries averaging less than $25,000 a year?  The National Federation of Independent Business believes that only 1.8 million businesses in the US will qualify.  Are you one of them?  In part three of my series on the tax implications of the healthcare reform bill we will take a look at how to determine if you qualify.

As a small business owner, you might look at your own salary and believe any hopes you had for this credit are sunk.  Well, the good news is that you and your family members are not included in the calculation for number of employees or average salaries.  The bad news of course is that what you pay for yours and your family’s health insurance through the company doesn’t count for the credit either.

The next question to be resolved is: what counts as qualified expenses?  It has to be the portion of premiums paid by the employer in a qualifying arrangement where the employer pays no less than 50% of that employee’s premium.  That’s easy enough, right?  This is the IRS.  Nothing is ever easy.  Next, you need to cap that amount by the average insurance premium paid in your state.  In other words, if if you buy your employees a $600 a month health insurance plan and the average health insurance premium in your state is only $400, you have to use the $400 figure.  On that note, the maximum annual premium for individual employees in Florida is $5,161, and $12,453 for families in 2010.

Ok, so let’s say for example you have 15 full-time employees (not including yourself and your family) and they make an average of $28,000.  You decide to pay 50% of their health insurance costs.  How do you determine what portion of the credit you qualify for?  You call your CPA.  But if you are a do-it-yourselfer or you simply want to see if it’s worth bothering your CPA over, here are the calculations:

Let’s say your total employer paid portion of the premiums comes to $82,500.  And the good news is that you are paying less than your state average, so that is the number we can actually use for this example.  The credit is 35% of that $82,500, or $28,875.  Good so far.

Since you have more than 10 employees, but less than 25, we take your excess employees (5) and divide that by 15.  This gives us 33% which we must now shave off that credit total.  So $28,875 x 33% is $9,528.75.  $28,875 minus $9,528.75 is $19,346.25 and that is your remaining credit so far.

Now, you also pay your employees an average of $28,000.  That’s almost $13.50 an hour, and since you’re covering their health insurance too it’s really not bad. But it is over the $25,000 limit. To come up with your percentage, you need to take $3,000 (the amount over $25,000) and divide by $25,000.  This gives us another reduction of 12%.  So we take $28,875 x 12% and get $3,465.  $19,346.25 minus $3,465 equals $15,881.25.

So for your portion of the health insurance premiums of $82,500, you get a credit of $15,881.25.  Did you follow all that?  Like I said, call your accountant.

There are a couple additional caveats that need to be considered.

If you hire a lot of part time help, you may still qualify.  You can determine your number of employees by taking the total number of hours worked and dividing it by 2,080.  In other words, let’s say you have 30 employees who work half time, or 1,040 hours during the year.  For purposes of this credit, you would record 15 employees (1,040 x 30 = 31,200 / 2,080 = 15 employees).  However, if you have a workaholic who works say 2,200 hours in a year, you only use 2,080 of those hours for the purposes of this equation.

The credit is calculated based on the total number of employees who work for you even if they are from a leasing company or PEO.  In other words, if you have 20 employees but only want to calculate the credit based on 10 of them, you can’t switch the other 10 over to a leasing company.  But the good news is that if you lease 10 employees from a leasing company that has thousands of employees that it leases out, you can claim the credit on the 10 you lease.

The health care credit reduces the deduction you can take for health insurance expense.  In other words, if you pay $82,500 and get a tax credit of $15,881.25, you only get to deduct $66,618.75 in health insurance costs for your business.  For upper income earners, this can reduce the benefit of the tax credit by up to 35% or more if self-employment taxes are applicable to your business.  It is still worth it since the credit is a direct reduction in taxes, but this is something to consider when weighing the costs and benefits of providing a health plan.

In 2010, during the phase in period, the 50% rule for how much of the premium you pay as an employer has some flexibility.  For example, if you pay a portion of the premium for an employee and his family, you only need to cover 50% of what that employee’s individual premium would be.  Also, you don’t have to cover a uniform percentage for all of your employees in 2010.  In other words, you could cover 50% for one employee and 70% for another.  This laxness will phase out in following years.

In addition to owners and family members, generally you cannot use seasonal help to calculate the credit.  The exception is when that seasonal worker works more than 120 days for you.

For additional information on this topic please refer to Healthcare and Taxes, Part 2, and Healthcare and Taxes, Part 1.