Tax Advantages of Employer Health Plans

There’s a reason that 49% of Americans receive their health insurance through an employer-sponsored health plan. It’s a tax-advantaged way for an employer to provide “income” to an employee. It’s not really income--there’s nothing extra in an employee’s paycheck. However, it is tax free additional compensation in the form of health insurance benefits for an employee, and it’s tax-deductible for an employer to provide the benefits.

To understand why we have employer-sponsored health plans, a quick history lesson is needed.

In World War II, there was the start of a severe labor shortage as eligible workers went into the military. Fearing a spiraling of costs for labor as businesses competed for workers, the federal government froze wages preventing businesses from raising pay to attract those workers. To compensate for this, businesses started to offer non-salary benefits to workers–specifically health care insurance. Then in 1943, the IRS ruled that employer provided health insurance should be exempt from taxation. With this type of tax “subsidy”, employer health plans became the cheapest way to acquire health insurance.

Today, health plan benefits (including health, dental, disability and life plans) are a major way for employers to provide non-salary income to their employees. It’s a business deduction to the employer, just like salaries, but there’s no payroll taxes paid on the cost of these benefits. For employees, it represents income for which they pay no income or FICA taxes. It’s basically subsidized health insurance for those who participate.

This “non-wage” income has become a larger and larger part of an employee’s total earnings, especially as health insurance costs have spiraled upward.

What about premiums that employees pay for their coverage? Most employers don’t pay 100% of the employee’s health insurance costs.

For example, under the IRS code, if the health plan is properly structured as a Section 125 Cafeteria Plan or a Premium Only Plan, an employee’s premium contributions can be done on a pre-tax basis, thus eliminating income and FICA taxes for the employee on their premium.

For small businesses, offering non-wage income in the form of benefits often seems too expensive for the employer. However, benefits often are viewed as one of the most significant aspects of attracting and retaining workers for any size business. Providing benefits actually can help a small business to compete.

The ways in which an employer can take advantage of tax preferences for employee benefit plans are numerous. Health Savings Accounts, Healthcare Reimbursement Accounts, Premium Only Plans, Cafeteria plans and Small Business Health Care Tax Credits are all ways to use the tax laws as they’re intended to help provide health plan benefits to employees. 

To maximize your benefits and provide the best benefits possible to your employees, it’s always best to seek out a benefits professional to help you go over the different strategies available.

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Allied National

Founded in 1970, Allied is one of the nation's oldest and most experienced third-party administrators. Allied National is a 90 Degree Benefits Company, a subsidiary of Blue Cross Blue Shield Alabama. As the small group benefit experts, Allied works with small business employers to provide unique and affordable group health benefits.