As healthcare costs continue to rise, many small employers are looking for their first health benefit offering or alternatives to traditional group health insurance. Two common options are offering an individual coverage health reimbursement arrangement (ICHRA) or providing employees with a health insurance stipend or cash bonus.
In this article, we'll explain how each works and why many small and medium-sized businesses are choosing ICHRA as a tax-advantaged health plan alternative.
In this blog post, you'll learn:
An individual coverage HRA (ICHRA) is an employer-funded health benefit. It allows employees to buy their own individual health insurance plans and receive tax-free reimbursement for monthly premiums and, if included in the plan design, other eligible medical expenses.
Other HRA-eligible expenses include:
Introduced in 2019 through federal regulations1, ICHRAs have provided employers with a flexible alternative to group health insurance since becoming available in 2020.
With an ICHRA:
Because ICHRA is a formal employer-sponsored health benefit regulated by the IRS and Department of Labor, it provides favorable tax treatment that informal arrangements can't offer.
“The ICHRA provides a non-taxable contribution rather than a taxable health insurance stipend. This saves the payroll taxes (on the employer side) and the income taxes (on the employee's side),” said Zachary Hobby, Director of Sales at PeopleKeep. “Alongside an ICHRA, there are no increases to the employees' AGI. Another advantage is that the ICHRA opens a SEP anytime throughout the year, whereas the health insurance stipend doesn't.”
A health insurance stipend is an informal arrangement in which an employer provides a taxable allowance to help employees cover healthcare costs.
For example, a small business owner may provide employees with:
Unlike an ICHRA, a stipend isn't a formal health benefit plan. Employees receive the money through payroll and can generally spend it however they choose.
Since stipends aren't formal health benefits, employers generally can't require employees to substantiate out-of-pocket expenses or maintain health insurance coverage in exchange for receiving the funds.
While individual coverage HRAs (ICHRAs) and health stipends both provide financial assistance for healthcare expenses, they differ significantly in taxation, compliance requirements, and how employees use the benefit.
|
Feature |
ICHRA |
Health insurance stipend |
|
Tax treatment |
ICHRA reimbursements are tax-free for employees and tax-deductible for employers. No payroll taxes apply. |
Stipends count as taxable income. Employees pay income and payroll taxes, and employers pay payroll taxes on the benefit. |
|
Compliance |
ICHRA is a formal health benefit. It requires plan documents, employee notices, and verification of individual health coverage. Employers can partner with an ICHRA administrator to make the process easier. |
Not a formal health benefit. Employers can't offer stipends as a tax-free reimbursement arrangement. A stipend isn’t a compliant health benefit for ALEs under the ACA’s employer mandate. |
|
Employee choice |
Employees choose the individual health insurance plan that best fits their needs. Employees can enroll in a plan during the annual Open Enrollment period for January 1 coverage. For midyear ICHRA start dates, employees newly eligible for an ICHRA qualify for a special enrollment period (SEP). This allows them to enroll in individual health insurance coverage outside the annual Open Enrollment period. |
Employees receive additional compensation and can use the money however they choose, including for medical coverage. |
|
Employer cost control |
Employers set a fixed monthly allowance and maintain a predictable healthcare budget. With PeopleKeep, any contribution that employees don’t use goes back to the employer at the end of the year. |
Employers can provide a fixed amount, but payroll taxes increase the total cost of the benefit. |
|
Value to employees |
Employees receive the full reimbursement amount for eligible expenses. |
Employees lose a portion of the benefit to taxes before they can spend it. |
|
Primary purpose |
Designed to help employees pay for monthly premiums and qualified medical expenses. |
Provides general financial assistance that employees may use for healthcare or other expenses. |
ICHRA reimbursements are free from income and payroll taxes, which means employees keep more of their employer's contribution while employers avoid payroll tax expenses. In contrast, a health insurance stipend functions as a taxable allowance, reducing the amount employees have available for healthcare expenses.
“ICHRAs allow employees to shop for coverage mid-year, and the contribution is completely tax-free,” Hobby said. “These are the two main advantages of the ICHRA over a traditional taxable health stipend.”
Before you offer a cash bonus in place of an individual coverage HRA (ICHRA), consider the following scenario: an employer wants to provide an employee with $500 per month to help pay for a health plan.
|
Category |
ICHRA |
Cash bonus |
|
Employer contribution |
$500 monthly reimbursement allowance |
$500 taxable bonus |
|
Employee receives |
Full $500 reimbursement for eligible expenses |
Less than $500 after taxes. You’ll need to withhold Social Security, Medicare, and Federal Income Tax from the stipend amount. To ensure the employee receives $500, you’d need to offer a higher amount. |
|
Employee income taxes |
None on eligible reimbursements |
Income taxes apply |
|
Employee payroll taxes |
None |
Payroll taxes apply |
|
Employer payroll taxes |
None |
Employer payroll taxes apply |
|
Healthcare purchasing power |
Employee receives the full value of the benefit |
A portion of the benefit is lost to taxes |
|
Overall result |
More value for both the employer and employee |
Higher tax costs for both parties |
The exact savings depend on tax rates, but the principle remains the same: tax-free reimbursements stretch healthcare dollars further than taxable compensation.
Many organizations initially consider offering healthcare stipends rather than a group health plan because they seem simple to administer. However, as employers evaluate long-term costs and compliance considerations, they often discover that the individual coverage HRA (ICHRA) provides greater value.
Common reasons employers choose ICHRA include:
Many small employers offer a stipend so that employees can also claim federal advance premium tax credits. However, with the expiration of the enhanced APTC under the American Rescue Plan and the Inflation Reduction Act after December 31, 2025, fewer individuals qualify for these tax credits. This has led to many small employers exploring HRAs, such as the ICHRA, instead.
A stipend may be appropriate when an employer wants to provide general financial assistance without creating a formal healthcare benefit.
For example, an employer may choose a stipend so their workforce can use the funds for a variety of employee wellness-related expenses beyond health insurance.
However, employers should understand that stipends do not provide the tax advantages available through an ICHRA and generally can't function as a compliant substitute for a formal health reimbursement arrangement.
“Health stipends are a strong fit for employees with a large subsidy. Employees who opt into the ICHRA can't receive federal tax credits in addition to the benefit,” Hobby said. “If the tax credits offered are greater than the tax savings alongside the ICHRA, I recommend employers offer the stipend model.”
For employers looking to help employees purchase health insurance or pay for qualified medical expenses, an ICHRA is often the more advantageous option.
An ICHRA allows employers to:
While stipends and cash bonuses may appear simpler, they result in higher tax costs for both employers and employees.
While both healthcare stipends and individual coverage health reimbursement arrangements (ICHRAs) help employers contribute to employees' healthcare costs, an ICHRA offers a more tax-efficient and compliant solution. Unlike taxable stipends or cash bonuses, an ICHRA allows employers to reimburse individual health insurance premiums and eligible medical expenses on a tax-free basis, helping employees get more value from every healthcare dollar.
Looking for a flexible alternative to traditional group coverage? PeopleKeep by Remodel Health can help! Schedule a call with an HRA specialist today to improve your benefit strategy.