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New Tax Rules For Health Care Reimbursement

Since 1961, IRS Revenue Ruling 61-146 has authorized employers to reimburse employees on a pre-tax basis some or all of the cost of purchasing individual health insurance coverage. Many congregations have relied on this revenue ruling to reimburse pastors and lay employees for the cost of individual health insurance coverage or to pay the premiums for such coverage directly to the insurance company on behalf of employees. These arrangements are commonly referred to as employer payment plans, and are sometimes provided through stand-alone health reimbursement arrangements (HRAs).

The IRS recently began to issue guidance as to application of the Affordable Care Act (ACA) coverage mandates to employer payment plans and stand-alone HRAs. In Notice 2013-54, issued on Sept. 13, 2013, the IRS held that pre-tax reimbursement of individual health insurance premiums, or direct payment of individual health insurance premiums through a stand-alone HRA, creates a group health plan thajavascript:void(null);t fails to satisfy the ACA's coverage mandates. In additional guidance issued on Nov. 6, 2014, the IRS provided that even if an employer reimburses premiums under an employer payment plan or directly pays individual health insurance premiums on an after-tax basis, the arrangement is a group health plan that fails to satisfy the Affordable Care Act's coverage mandates.

The Nov. 6, 2014 guidance further prohibits an employer from offering cash to an employee who has high claims in exchange for the employee agreeing to waive coverage under the employer's health plan. The guidance states that this type of arrangement violates the HIPAA nondiscrimination rules and creates an illegal election between cash and a nontaxable benefit.

Accordingly, this IRS guidance means that a congregation can no longer reimburse an employee for the cost of his or her health insurance policy or pay the cost of such policy directly to the insurer, on either a tax-free or an after-tax basis, regardless of whether the coverage was purchased through the health marketplace or through the private market, without incurring significant penalties. Failure to satisfy the Affordable Care Act coverage mandates results in a $100 a day penalty for each violation per employee, and employers are required to self-report violations to the IRS.

Churches that currently offer employer payment plans - on either a pre-tax or after-tax basis - should replace those plans immediately with another option to avoid substantial penalties. Alternatives to consider include:

  • Provide additional taxable compensation to its employees, in an amount that is not tied to the cost of individual health insurance coverage and without any requirement that the employee actually purchase individual health insurance. Essentially, the additional compensation would simply be an increase to salary in recognition that the church is no longer providing health insurance coverage.
  • Implement a payroll practice under which the church agrees to forward after-tax contributions on behalf of employees directly to insurers to pay for individual health insurance coverage, so long as each of the following are satisfied:
  1. The contributions forwarded are deducted on an after-tax basis from the employee's salary;
  2. Employee participation is completely voluntary;
  3. The church does not pay any amount toward the cost of coverage;
  4. The church does not endorse the arrangement in any way;
  5. The church does not receive any cash or other consideration in exchange for collecting and forwarding the premiums; and
  6. The payroll deduction satisfies state wage payment laws.
  • Adopting a small group market plan through the SHOP Marketplace for small employers.

We will continue to do our best to keep you updated on any further guidance issued under the ACA.

*Note: If your church pays for or you are reimbursed for Churchwide Healthcare it's tax - free; If you are reimbursed for insurance purchased on exchange, privately or through spouse, it's taxable