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CCH® BENEFITS — 05/24/10

Dental, Vision Plans Eligible To Receive Small Employer Tax Credit Under New Guidance

from Spencer’s Benefits Reports: IRS Notice 2010-44 provides detailed guidance on calculating the small employer tax credit in the Patient Protection and Affordable Care Act, including the following:

• the credit will not be reduced by a tax credit or subsidy available through a state program;
• small businesses may receive the credit for regular health insurance and for add-on dental, vision, and other limited-scope health insurance coverage; and
• employers can choose the most favorable of three methods to determine hours worked.

The notice is scheduled to be published in Internal Revenue Bulletin 2010-22, dated June 1.

The tax credit is included in IRC Sec. 45R, which was added by the Affordable Care Act. It is effective for taxable years beginning in 2010 for both taxable employers and certain tax exempt employers.

Counting Employers, Employees

In order to be a small employer eligible for the tax credit, (1) the employer must have fewer than 25 full-time equivalent employees (FTEs) for the taxable year; (2) the average annual wages of its employees for the year must be less than $50,000 per FTE; and (3) the employer must maintain a “qualifying arrangement.”

According to the notice, sole proprietors, partners in a partnership, shareholders owning more than 2% of an S corporation, and any owners of more than 5% of other businesses are not counted as employees for purposes of the credit. Family members of these owners and partners are also not taken into account as employees.

Seasonal workers are disregarded in determining FTEs and average annual wages unless the seasonal worker works for the employer on more than 120 days during the taxable year, although premiums paid on their behalf may be counted in determining the amount of the Sec. 45R credit.

Determining Hours Of Service

According to Notice 2010-44, an employee’s hours of service for a year include the following: (1) each hour for which an employee is paid, or entitled to payment, for the performance of duties; and (2) each hour for which an employee is paid, or entitled to payment, on account of vacation, holiday, illness, incapacity (including disability), layoff, jury duty, military duty, or leave of absence.

In calculating the total number of hours of service which must be taken into account for an employee for the year, the employer may use any of the following methods:

(1) determine actual hours of service from records of hours worked and hours for which payment is made or due;
(2) use a days-worked equivalency whereby the employee is credited with eight hours of service for each day for which the employee would be required to be credited with at least one hour of service; or
(3) use a weeks-worked equivalency whereby the employee is credited with 40 hours of service for each week for which the employee would be required to be credited with at least one hour of service.

Number Of Employees, Annual Wages

The number of an employer’s FTEs is determined by dividing the total hours of service credited during the year to employees (but not more than 2,080 hours for any employee) by 2,080, rounded to the next lowest whole number.

In some circumstances, an employer with 25 or more employees may qualify for the credit if some of its employees work part-time. For example, an employer with 46 half-time employees (meaning they are paid wages for 1,040 hours) has 23 FTEs and, therefore, may qualify for the credit.

The average annual wages paid by an employer for a taxable year is determined by dividing the total wages paid by the employer during the employer’s taxable year by the number of the employer’s FTEs for the year. The result is then rounded down to the nearest $1,000.

Premium Payments

Only premiums paid by the employer for health insurance coverage are counted in calculating the credit. If an employer pays only a portion of the premiums for the coverage provided to employees, only the portion paid by the employer is taken into account. Any premium paid under a Sec. 125 salary reduction arrangement is not treated as paid by the employer.

An employer’s premium payments are only taken if they are paid under a “qualifying arrangement,” under which the employer pays at least 50% of the premiums for each employee enrolled in the employer’s plan (but see transition relief, below).

Health insurance coverage also includes the following:

• limited scope dental or vision;
• long-term care;
• nursing home care;
• home health care;
• community-based care;
• coverage only for a specified disease or illness;
• hospital indemnity or other fixed indemnity insurance; and
• Medicare supplemental health insurance and similar supplemental coverage.

Thus, for example, if an employer offers a major medical insurance plan and a stand-alone dental plan, the employer must separately satisfy the requirements for a qualifying arrangement with respect to each type of coverage.

An employer’s premium payments for calculating the credit is limited to the premium payments the employer would have made under the same arrangement if the average premium for the small group market in the state (or an area within the state) in which the employer offers coverage were substituted for the actual premium.

Calculating The Credit

For taxable years beginning in 2010 through 2013, the maximum credit is 35% of a taxable eligible small employer’s premium payments. For a tax-exempt eligible small employer for those years, the maximum credit is 25% of the employer’s premium payments.

The credit phases out gradually (but not below zero) for eligible small employers if the number of FTEs exceeds ten or if the average annual wages exceed $25,000.

State Credits Subsidies

If a state makes payments directly to an insurance company to pay a portion of the premium for employer coverage, the state is treated as making these payments on behalf of the employer for purposes of determining whether the employer paid 50% of the premium.

Also, these premium payments by the state are treated as an employer contribution for purposes of calculating the credit. However, the amount of the credit may not exceed the amount of the employer’s net premium payments.

Transition Relief

For taxable years beginning in 2010, an employer that pays an amount equal to at least 50% of the premium for single (employee-only) coverage for each employee enrolled the employer plan will be considered to satisfy the requirement for a qualifying arrangement, even if the employer does not pay the same percentage of the premium for each such employee.

Thus, an employer will be deemed to satisfy the requirement for a qualifying arrangement if it pays at least 50% of the premium for single coverage for each employee receiving single coverage, even if the employer offers more expensive coverage (such as family coverage) and does not pay 50% of the premium for the more expensive coverage.

For more information, contact Mireille Khoury of the Office of Division Counsel/Associate Chief Counsel (Tax Exempt and Government Entities) at (202) 622-6080.

For more information on this and related topics, consult the CCH Pension Plan Guide, CCH Employee Benefits Management, and Spencer's Benefits Reports.

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