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Small Business Employee Benefits and HR Blog

4 Pitfalls of Increasing Wages for Health Insurance

Some businesses consider increasing employees' taxable wages to help with their personal health insurance. For example, a business might offer a taxable raise, stipend, or salary bonus with the idea that employees will use it on healthcare. Why?Increase_Wages_for_Health_Insurance

Usually it is because the business wants to offer health benefits for recruiting and retention, but cannot afford group health insurance, cannot meet minimum participation requirements of group health insurance, and/or they do not know they can set up formal, tax-advantaged premium reimbursements via Defined Contribution Allowances.

On the surface, giving raises to employees for health insurance may seem cheaper and simpler than reimbursing health insurance premiums through formal Defined Contribution Allowances. But, there are four big problems businesses face by increasing taxable wages to help employees with their health insurance.

4 Pitfalls of Increasing Taxable Wages for Health Insurance

#1) It's very hard to take back a raise for health insurance

It is very hard for a business to informally increase wages for health insurance, and then take it away.

For example, a business decides to increase wages with the intention that employees will use it on health insurance. The wage increase is folded into their gross income. A few months go by and many employees will forget that the wage increase was for health insurance. Then, if the business decides to start a formal health benefits program it will be very hard to take back the raises given for health insurance - even if they are replacing it with a formal health benefit.

Many businesses in this situation tell us "I wish I would have just started with the formal Defined Contribution Allowances."

#2) Business ends up paying more for taxable wage increases

Businesses often think that a taxable wage increase will be cheaper. But the second pitfall is that the business will spend more on the raises than they would for tax-advantaged Defined Contribution Allowances.

By offering formal Defined Contribution Allowances instead of increasing taxable wages, both the small business and employees save money. See the breakdown of tax savings in this article.

#3) It's not guaranteed employees will spend the money on health insurance

By increasing wages for employees' health insurance, there is no guarantee that employees will spend the money on health insurance. 

#4) Business loses top candidates to competitors with formal health benefits

While it may sound nice to tell candidates "we offer higher wages so you can buy your own health insurance," most candidates want to work for an employer who offers a formal, tax advantaged health benefits program (vs. a causal, un-trackable arrangement).

What problems have you encountered from increasing taxable wages for employees' health insurance? 

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