Is This Your Situation: Calculating the Small Business Health Care Tax Credit
The federal government provides a tax credit to some businesses that pay a portion of their employee health care insurance premiums.
Smaller businesses, and businesses with lower-paid employees get the biggest credits, but the portion of your company’s contribution that’s not covered by the credit is generally deductible as a business expense.
The tax credit is available for tax years 2010 to 2013, and for two consecutive tax years in 2014.
Steps to Calculate Your Tax Credit
- Determine the percentage of the health care premium you paid for employees based on the premium for a single employee. For example, if you paid 70 percent of the single employee premium, and contributed the same amount toward family coverage for each employee, that qualifies as a 70 percent contribution.
If you didn’t pay at least 50 percent of the premium for single individual coverage, you’re not eligible for the credit.
- Count the number of full-time equivalent employees you had during the year. If two employees both work 20 hours per week, they each represent one-half of a full-time employee, and together make up one full-time equivalent employee.
- Yourself or other owners.
- Seasonal employees working fewer than 120 days.
- Leased employees or ministers.
If you have 25 or more FTEs, you’re not eligible for the credit.
- Total the wages you paid to all FTEs. Include only wages that were subject to Social Security and Medicare income tax withholding. For example, suppose your total W-2 taxable earnings for the 20 employees totaled $500,000.
Divide the total compensation by the number of full-time equivalent employees, and round down to the nearest $1,000 to compute the average compensation per FTE. For example, divide $500,000 by 18 FTEs to get $27,777. Round down for an average compensation of $27,000.
If your average compensation was $50,000 or more, you’re not eligible for the credit.
- Total the amount you paid toward health care premiums for each employee.
- Suppose all 20 employees worked the entire year.
- The annual premium for a single employee was $6,500.
- Multiply $6,500 times 0.70 to get $4,550, which is the amount you paid toward each employee’s premium.
- Multiply $4,550 by 20 for a total of $91,000 you paid toward health care premiums for all employees.
If the state pays a premium subsidy directly to the insurance company, include the subsidy when you calculate the total premiums you paid. If you receive a state tax credit for the premiums you paid, do not reduce the amount you paid by the amount of the tax credit. The amount of your credit cannot exceed your cost for health care premiums.
- Determine the average premium in the small group market in the rating area in which your employees enroll for insurance. Refer to the IRS tables published for each tax year.
If the premium your employees pay is greater than the average premium in your location, calculate the amount you would have paid if employees paid the average premium.
Suppose all your employees are in Massachusetts, and that the average premium for the year was $6,110. Multiply $6,110 by 0.70 to get a per-employee contribution of $4,277. Multiply $4,277 by 20 to get a total contribution of $85,540.
- Choose either the amount you actually paid toward employee premiums, or the amount you would have paid based on the average premium, whichever is smaller.
Multiply that by 0.50 for 2014, and later, to calculate your unreduced credit. If you are tax-exempt, multiply by 0.35 for 2014, and later. For example, multiply $85,540 by 0.35 to get an unreduced credit of $29,939.
- Calculate the amount of your FTE reduction. Subtract 10 from the number of FTEs you have, and divide the result by 15 to calculate your reduction factor.
- Multiply the reduction factor by your unreduced credit to calculate the FTE reduction. For example, subtract 10 from 18 to get 8. Divide 8 by 15 to get 0.53. Multiply 0.53 by $29,939 to get an FTE reduction of $15,967.
- Calculate the amount of your wage reduction if your average compensation is greater than $25,000. Subtract $25,000 from your average compensation, and divide that by $25,000. Multiply the result by your unreduced credit. For example, subtract $25,000 from $27,000 to get $2,000, and divide $2,000 by $25,000 to get 0.08. Multiply 0.08 by $29,939 to get a wage reduction of $2,395.
- Subtract the amount of your FTE reduction and the amount of your wage reduction from your unreduced credit to calculate your final credit. For example, take $29,939, subtract $15,967, and then subtract $2,395 for a total estimated credit of $11,577.
In addition to the $11,577 credit, you can deduct the remaining $82,423 of the premiums you paid for employees as a general business expense.
These steps illustrate the typical calculations required to compute the Small Business Health Care Tax Credit from 2010 to 2014 at the time this article was written. The actual amount of your credit might vary based on additional IRS regulatory guidance. Consult with your tax or legal representatives to calculate the exact amount of your credit.