Offering health benefits as a small business owner is essential in recruiting and retaining employees, but can be difficult due to the cost. One option that can help you overcome this challenge is the small business health care tax credit.
However, not all small businesses are eligible for a tax credit, and there are specific steps you must take to ensure your organization qualifies.
In this article, we'll go over eligibility requirements, the savings you can expect, and how to claim your health care tax credit.
What is the small business health care tax credit?
This federal law is in place to cut small business owners some slack when offering healthcare coverage to their employees. To qualify, you'll need to offer a qualified health plan (QHP) through the Small Business Health Options Program Marketplace1 (SHOP). SHOP plans are tailored to meet the needs of employers with 1-50 employees. You can register for the program2 through an insurance company or with a SHOP-registered agent or broker.
What are the company size requirements to be eligible for a health care tax credit?
To be eligible for the credit, your organization must employ fewer than 25 full-time equivalent employees (FTEs) during the tax year.
The number of FTEs at an organization is made up of a combination of full-time and part-time employees. According to the ACA, part-time hours are considered anything less than 30 hours per week.
To calculate your number of FTEs, you'll first determine the number of full-time employees you have working at the organization (i.e., those working 30 or more hours per week). Next, you'll determine the “full-time equivalent” of your part-time employees by adding the number of hours worked by all part-time employees in a given month and dividing the total by 120. This gives you the number of FTEs in your part-time workforce.
The number of FTEs is equal to your organization's full-time employees plus the number of your full-time equivalent part-time employees, rounded to the lowest whole number.
Who doesn't qualify as an FTE?
The Internal Revenue Service3 (IRS) has strict rules for FTEs. The business owner, a sole proprietor or partner, and their family members don't qualify as FTEs. Neither do seasonal employees who work fewer than 120 days during the taxable year.
What are the average wage requirements to be eligible for a health care tax credit?
If your organization meets the size requirements, you're ready to determine if you meet the annual wage requirements for the health care tax credit. Healthcare.gov4 explains that to be eligible, your business must have an average employee salary of about $56,000 per year or less.
Additionally, there's an even higher tax break for the smallest businesses. To qualify, your company must have fewer than ten employees who are paid an average annual salary of $27,000 or less.
To calculate average annual wages, you'll add up the total wages paid to your FTEs during the tax year and divide that number by the total number of FTEs.
What type of health care coverage do I need to offer to be eligible for a health care tax credit?
As mentioned above, you'll look to SHOP coverage to ensure you qualify for a health care tax credit. You must next determine if your organization pays at least 50% of an employee's “qualified health plan” (or qualify for a limited exception to this requirement).
Keep in mind that you only need to pay at least 50% of the cost of employee-only—not family or dependent—health coverage for each employee.
How much is the health care tax credit?
Generally speaking, the smaller your organization, the bigger the credit you'll receive to help pay your employee's premiums for health insurance.
The maximum credit is:
- 50% of employee health insurance premiums paid for small business employers
- 35% of employee health insurance premiums paid for small tax-exempt employers
Unfortunately, a health care tax credit isn't something you can apply for time and time again. The credit is only available to eligible employers for two consecutive taxable years, and you can carry the credit back or forward to other tax years. If the amount of the health insurance premium payments are more than the total credit, you may be able to claim a business expense deduction for the premiums in excess of the credit. That means there's a credit and a deduction for employee healthcare premium costs.
How do I claim the health care tax credit?
If you think you're eligible for the credit, you'll first fill out Form 8941, Credit for Small Employer Health Insurance Premiums5, to calculate your credit. Then, you'll include the amount as part of the general business credit on your income tax return.
If you're a tax-exempt organization, you'll need to include the amount on line 44f of Form 990-T, Exempt Organization Business Income Tax Return6. To claim the credit, you'll have to file Form 990-T, even if it's something you don't normally do.
As mentioned above, if you're a small business owner, you may be able to carry the credit back or forward. If you are a small tax-exempt employer, you may be eligible for a refundable credit.
Helping your employees with affordable health insurance coverage won't hurt your budget as much as you think. While many small business owners think offering health benefits to their eligible employees is an unrealistic expense, the small business health care tax credit can make it possible. What's more, offering a qualified small employer health reimbursement arrangement (QSEHRA) can also help make contributing to your employee's health benefits more affordable.
While offering a QSEHRA won't qualify you for a small business health care tax credit, by offering a QSEHRA, you may not need one. With a QSEHRA, you can reimburse your employees, tax-free, for the individual health insurance premiums and qualifying medical expenses up to an employer-set monthly allowance amount.
This article was originally published on April 15, 2010. It was last updated March 21, 2023.