Employer-provided health insurance can often be pre-tax, reducing tax burdens for employees and employers. Learn about pre-tax plans, cafeteria plans, and reimbursement arrangements to enhance workplace benefits and compliance.
By Brad Nakase, Attorney
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Putting together a benefits package for employees is a great way to entice and keep the best workers. However, there may be concerns when it comes to offering health insurance to your employees. The ability to deduct premium payments from employees’ gross income is a must if you plan to have them contribute to their own coverage. However, are health insurance payroll deductions considered pre-tax? Continue reading to find out the answer to this question and more.
Is health insurance before or after taxes? The answer is that it is contingent upon the kind of health insurance plan that you have. If a company takes money out of an employee’s paycheck to provide health insurance, that’s called a pre-tax plan. However, there are exceptions to that rule.
Both pre-tax and post-tax health insurance are choices to think about when looking for a plan to cover your employees’ medical expenses. Medical coverage that is pre-tax includes:
Here we’ll go into more detail about how plans like health reimbursement arrangements (HRAs) provide similar pre-tax benefits.
A Section 125 cafeteria plan is among the most prevalent forms of health insurance for businesses. The Internal Revenue Service defines a Section 125 plan as an employer-maintained written plan in which all participants are workers and employees have the option to select two or more benefits. The cash and eligible perks are not considered part of the recipient’s gross income. When it comes to the cafeteria plan, it is typically not possible to incorporate benefits that delay an employee’s compensation.
Qualifying benefits offered by Section 125 plans include:
How does an HSA work? A health savings account (HSA) is a special kind of savings account that people can use to put money aside for specific medical costs. Anyone with a high deductible health plan (HDHP) can open an HSA, whether they’re an employee or self-employed.
HDHPs are health insurance plans that offer low monthly premiums with large annual deductibles. A health savings account with an HDHP Section 125 plan can be a good combination.
The money an employee puts into a health savings account grows tax-free. Even though employers can put money into their employees’ HSAs, the employees ultimately own the funds. Funds contributed to an employee’s HSA by you remain the property of the employee even if the employee does not use them. The money in an employee’s HSA might stay with them even after they leave your firm.
The annual contribution limits for self-only coverage and family coverage are $4,150 and $8,300, respectively, for 2024. To avoid having their contributions counted against the maximum for that year, employees have the option to roll over their funds to the following year. Withhold taxes after deducting employee contributions.
In terms of tax treatment, flexible spending accounts are comparable to health savings accounts (HSAs). However, there are important distinctions:
Employer-sponsored plans usually represent pre-tax deductions for workers. It is common practice to withhold taxes after deducting the employee’s share of insurance premiums. On the other hand, you might not be able to deduct or contribute all of your health insurance premiums before taxes. An example of a state that does not consider a pre-tax health premium is Pennsylvania, where the state unemployment tax is not considered pre-tax.
Assume for a moment that you’ve decided to provide your workers a cafeteria plan through Section 125. You are responsible for paying half of the premiums, which amount to $600. To cover the premiums, you take $300 out of your workers’ paychecks.
An employee of yours earns $2,000 every two weeks. The 7.65% FICA tax, assuming a wage of $2,000 before deductions, looks like this:
Just multiply $2,000 by 7.65% and you get $153.
A Section 125 plan, however, is offered before taxes. You should subtract $300 for the pre-tax health insurance before deducting any taxes.
$2000 minus $300 equals $1,700
The employee’s take-home income is $1,700 after paying for health insurance. Instead of $2,000, withhold taxes from the employee’s paycheck of $1,700. Now let’s examine the FICA tax:
The result is $130.05, calculated by multiplying $1,700 by 7.65%.
In addition, pre-tax deductions reduce the employer’s share of FICA taxes. Therefore, you can reduce your tax bill with a pre-tax plan.
The majority of health insurance premiums paid by employers come out of employees’ pre-tax wages. Nevertheless, premium payments made after taxes are still an option for employees. Workers who choose not to participate in their employers’ health insurance programs pay premiums after taxes if they buy their own coverage.
Health insurance, whether paid for before or after taxes, is important. Why? Because it establishes the tax obligations of your workers and their qualifications for other forms of employer-sponsored benefits, like health reimbursement arrangements (HRAs).
The ability to pay for health insurance premiums with after-tax money while still receiving pre-tax benefits is a key feature of health reimbursement arrangements. In what way? Employers have the option to compensate employees for their medical expenses, including premium payments, using money that is not subject to taxes.
Using HRAs, employees have more freedom to choose the health plan that best suits their needs. Here are three HRA possibilities that businesses can consider.
For small businesses that are exempt from the ACA’s mandate that they provide health insurance to their employees, there is a Qualified Small Employer Health Reimbursement Arrangement (QSEHRA) that they can apply for. When there are less than fifty full-time equivalent (FTE) workers, the employer is considered a small business under the Affordable Care Act.
In 2024, businesses can get up to $6,150 back for individuals and $12,450 for families when they use a QSEHRA. The QSEHRA standalone plan is exclusively available to small companies. You have the option to compensate your employees for their premiums and other eligible medical expenses, including prescriptions.
ICHRAs, or Individual Coverage Health Reimbursement Arrangements, are plans that let companies reimburse workers for health care costs without putting a cap on the amount they can contribute. While any business can establish an ICHRA, the Affordable Care Act mandates that all “applicable large employers” (ALEs) make sure the plan is affordable. Any company with fifty or more full-time equivalent employees is considered an ALE.
What does the Affordable Care Act mean by “affordable plan”? All employees are required to have a monthly premium that is less than 9.83% of one-twelfth of their household income for the lowest-cost Silver Health Plan for self- coverage in their location. This value does not include the monthly ICHRA reimbursement amount.
It is not possible to provide both an ICHRA and a standard health insurance plan through the same workplace, as both an ICHRA and a QSEHRA are independent plans.
This brings us to our third category of health reimbursement arrangements: EBHRAs. In 2024, an EBHRA will have an employer contribution of $2,100. Any business, no matter how big or little, can establish an EBHRA.
You also need to have a conventional health insurance plan, unlike QSEHRAs and ICHRAs. You are not allowed to provide EBHRAs in lieu of more conventional health insurance plans.
You can get your out-of-pocket costs, such as dental insurance premiums, copayments, and deductibles, covered by an EBHRA. It is not possible to repay employees for the premiums of the business health insurance plan through an EBHRA.
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