Steve Hamilton is a Tampa native and a graduate of the University of South Florida and the University of Missouri. He now lives in northern Kentucky. A career CPA, Steve has extensive experience involving all aspects of tax practice, including sophisticated income tax planning and handling of tax controversy matters for closely-held businesses and high-income individuals.
Wednesday, October 5, 2011
Small Business Health Care Tax Credit Redux
We’ve been looking again at the small business health care tax credit. Truthfully, I have been less than impressed with this credit, at least for our clients. It seems quite heavily engineered to accomplish so little.
There are three key steps to this credit:
(1)How many employees do you have?
(2)How much do you pay them?
(3)Do you have a “qualifying” insurance arrangement?
Let’s go through them.
HOW MANY EMPLOYEES DO YOU HAVE?
To be fair, the credit does not address the number of employees. It instead addresses “full time equivalents.” This makes sense, as it may require two (or three) part-time employees to have one “full-time equivalent” employee.
The first thing to do is count the number of employees. This requires a definition of “employee” (remember, this is the tax code). The term “employee” does NOT include the following:
·a sole proprietor
·a partner in a partnership
·a more-than-2% shareholder in an S corporation
·a more-than-5% owner in any other business
Wait, there is more:
·a family member of the above, including spouses, lineal family (ancestor/descendent) and in-laws.
So, you start with your year-end payroll summary. You eliminate the owners and their family. That leaves you with “employees’ for purposes of this credit.
Next you add-up the hours worked for those who remain. You stop counting at 2,080 hours per employee. After you adding-up all the hours, you divide by 2,080 to arrive at the number of FTEs. If this number is less than 25, you are still in the hunt.
The magic number is 10 or less FTEs. Above that number you will start to phase-out. By 25 you have phased-out completely.
HOW MUCH DO YOU PAY THEM?
We are talking Medicare wages, not income-taxable wages. The key difference will be contributions to 401(k)s, as those are Medicare-taxable but not income-taxable.
Fortunately you get to exclude the wages for the people left out above: the owners, their spouses and other family.
This can get you into an odd factual situation. You can have a workforce over 25 people – all full-time – and still qualify for this credit. The reason is that you have to eliminate the owners, their spouses and family. For some of our clients, that eliminates a sizeable part, if not the majority, of the workforce.
The key number here is $25,000 per FTE. Above that amount you will start to phase-out. By $50,000 you have completely phased-out.
DO YOU HAVE A “QUALIFYING”INSURANCE ARRANGEMENT?
The insurance we are discussing is what you would anticipate: traditional insurance, HMO, PPO and hospital indemnity. It also includes specified illness (think cancer insurance) as well as some dental and vision insurance.
What it doesn’t include is an HSA.
The key requirement is that you – the employer - have to pay at least 50% of the cost of the insurance. There are some tweaks around the edges (such as if the insurance company does not charge the same premium for all employees in single coverage).
If you do not pay at least 50% of the health insurance, there is no point in even starting the calculation.
There is also a “ceiling” test: your insurance can only be so expensive for purposes of this calculation. The government will publish state-specific amounts for “small group market average premiums.” Your insurance cannot exceed that amount for your state.
AN INTERIM STEP
Add-up your cost of premiums for “qualifying” insurance for your “FTEs.”
WHAT IS THE AMOUNT OF THE CREDIT
If you are for-profit, the credit is 35% of the interim step.
ARE WE DONE?
Of course not. If you have too many employees – or the right number of employees but pay them too much – your credit gets phased-out, eventually to zero. No credit for you.
There are two phase-outs, which means that you cannot do this in your head.
(1)If you have more than 10 FTE’s you start to phase-out. The phase-out is
(FTE – 10)
So, at 25 FTE’s you are completely phased-out.
(2)If your average wage is more than $25,000, you start to phase-out.
(average annual wage - 25,000)
So, at $50,000 you are completely phased-out.
HOW ABOUT AN EXAMPLE?
Let’s say that you have 9 FTEs with an average wage of $23,000.
4 are single coverage and 5 are family coverage. You pay 50% of the single rate.
The premiums are $4,000 for singles and $10,000 for family. The state limits are $5,000 for singles and $12,000 for family.
Here is the calculation.
$2,000 times 9 equals18,000
The credit is 35% times 18,000 or $6,300.
LET’S CHANGE AN ASSUMPTION
What if the employer pays 50% whether of single or family coverage?
Here is the calculation:
$2,000 times 4 equals8,000
$5,000 times 5 equals 25,000
The credit is 35% times 33,000 or $11,550.
HOW ABOUT ANOTHER EXAMPLE?
Let’s say you have 40 part-time employees. They total 20 FTEs. The average wage is $25,000. To keep this easy, let’s say that your cost of the health insurance is $240,000
The credit is (35% times $240,000) times (100% minus 66.6%) times (100% minus 0%) - or $28,000.
The credit is part of the general business credit, which means that you get to carry it over if you cannot use it in a given tax year. In addition, the credit is allowed for AMT, which is good. You do have to reduce your deductible insurance by the amount of the credit.
As I said, we have been less than impressed. It is, however, a great way for Congress to increase someone’s tax preparation fees.