Many small employers really want to help employees with healthcare, but traditional job-based group health insurance is often not in the cards. Even so, it’s common for these employers to ask, “Can we just give employees money for health insurance?”
The answer is yes, although there is a right way—and a wrong way—to go about it. This article outlines two compliant options for giving employees money for health insurance, how these two options work, and basic rules to follow.
Two options for giving employees money for health insurance
The primary ways for employers to give employees money for health insurance are:
- A taxable stipend
- A tax-free reimbursement arrangement
How Does a Taxable Stipend Work?
With a taxable stipend, employees receive a fixed, taxable stipend to purchase health insurance. Essentially, the business is simply providing taxable raises.
Employees receive the money whether or not they actually purchase health insurance, and the employer's monthly contributions are typically added to the employee’s paycheck. At the end of the year, employees receive a form showing the amount of their stipend, which they must report as income on their personal income tax return.
How Does a Tax-Free Reimbursement Arrangement Work?
With a formal, tax-free arrangement, employers commit to a fixed allowance amount they will reimburse employees for health insurance and other qualified medical expenses. Unlike a stipend, the employer doesn’t pay anything until an employee incurs a qualified expense.
Employees purchase an individual health insurance policy on the HealthCare.gov site or their state-based exchange and submit proof to their employer (or the employer's HRA administrator). The employer reimburses employees monthly, up to their allowance amount, typically through their paycheck as a pretax distribution.
To set up this type of arrangement, employers can use a qualified small employer health reimbursement arrangement (QSEHRA) or an individual coverage HRA (ICHRA).
Can I Pay for Employees’ Health Insurance Directly?
We highly recommend you do not go this route, and have gone into detail about reasons why in a previous blog post. To summarize, paying for individual health insurance without an HRA (that is, a Section 105 medical reimbursement plan) causes the employer to "endorse" the individual health insurance plans, which can lead to ERISA violations. It also causes the payments to become taxable income to employees.
For many small organizations, traditional group health insurance is out of reach, but that doesn’t mean you can’t ensure your employees are covered. An HRA is an ideal way for small organizations to offer employees tax-free money for a quality health benefit.
This post was originally published on May 15, 2015. It was last updated September 30, 2020.