Small Business Health Care Tax Credit

This information is current as of January 2012 and does not reflect any guidance issued on or after this date. As a summary, it is intended to be educational and informational and should not be considered legal advice. Church employers considering the Tax Credit should consult with their own legal counsel and appropriate tax advisors.

The Small Business Health Care Tax Credit (Tax Credit)

The legislation commonly referred to as Healthcare Reform (The Patient Protection and Affordable Care Act – PPACA) created a tax credit as an incentive for small employers to provide health insurance coverage to their employees. If eligible, the Tax Credit can be up to 25% (35% after 2013) of tax-exempt employer paid premiums and will take the form of a refundable credit against the amounts required to be withheld from your employees’ wages for federal income taxes and Medicare tax, plus the employer share of Medicare taxes (the credit is therefore also limited by these amounts). Small churches and church-related employers can qualify for the Tax Credit whether they provide coverage through their denomination’s self-funded church health plan, a stand-alone self-funded church plan, or through an insurance company. After 2013, the credit is available only for coverage obtained through state health insurance exchanges established under PPACA.

Note: Eligibility to claim the Tax Credit is not dependent upon participation in the PremierHealth Medical Plan sponsored by MMBB. Any church or church-related employer that meets the eligibility requirements may be eligible for the credit.

Eligibility for the Tax Credit

Small employers with fewer than 25 full-time equivalent employees (FTEEs) and average employee wages of less than $50,000 (as adjusted by a cost of living adjustment after 2013) per FTEE are eligible for the Tax Credit if “qualifying health insurance coverage” (i.e., coverage from an insurance company licensed under State law or a self-funded church plan) is offered to their employees under a “qualifying contribution arrangement.”

FTEEs, average wages and “qualifying contribution arrangement” are defined below.

Full-Time Equivalent Employees: Generally, all of your employees employed during the year for which the Tax Credit is being claimed are counted in computing your FTEEs—including part-time employees, former employees terminated during the year and employees who do not enroll in your health insurance plan (whether or not they are covered under another plan). There are limited exceptions by which certain employees are not counted in the calculation of the number of your FTEEs. For example, seasonal workers are not taken into account in determining FTEEs unless they work more than 120 days during the tax year. (However, the premiums paid on behalf of seasonal employees may be taken into account in determining the amount of the credit.) There are special rules as to whether a clergyperson may be counted in the FTEE calculation. Please see the discussion below on this subject.

With respect to identifying the number of hours an employee works for purposes of making the FTEE calculation, different methods of calculating employees’ hours of service may be used for different classifications of employees (e.g., counting actual hours worked or a days or weeks worked equivalency), as long as the classifications are reasonable and consistently applied. For example, you may use an actual hours method for all hourly employees and a weeks-worked equivalency method for all salaried employees.

The number of FTEEs employed is generally calculated by dividing the total hours worked by all employees during the year by 2,080 and rounding down to the nearest whole number (but not less than 1). However, the maximum number of hours that may be counted for any single employee in this calculation is 2,080.

Average Wages: In calculating an employer’s average annual “wages,” the wages taken into account are those wages subject to Social Security payroll taxes (FICA), but without the Social Security wage base limitation. However, wages paid to clergy are excluded from this calculation because their wages are not subject to FICA (see Special Rules for Clergy below).

To calculate the average wages paid, divide the total annual wages paid to employees taken into account in the FTEE calculation (but excluding wages paid to clergy) by the number of FTEEs (including FTEEs who are clergy), and round down to the nearest $1,000. As a reminder, wages paid to a seasonal worker are not taken into account in determining average annual wages unless he or she worked more than 120 days during the tax year. (However, as described above, the employer premiums paid for seasonal workers are included in the total premium amount used for computing the credit.)

Qualifying Contribution Arrangement: A qualifying contribution arrangement is an arrangement where the employer must make a contribution (i.e., a direct employer contribution, not employee contributions made through a cafeteria plan or otherwise) on behalf of each employee who is enrolled in health care coverage. The employer’s contribution must also be a “uniform percentage” of the premium cost for all covered employees. In order to satisfy the uniformity requirement, the church must pay the same percentage of the premium cost for all covered employees (including the clergyperson).

Prior to 2014, the uniform percentage contribution requirement can be satisfied if the employer pays at least 50% of the premium cost for single (employee-only) coverage under the qualifying health insurance coverage. The rules vary depending on, for example, whether the employer offers a single health insurance plan or more than one plan, or whether the employer offers a more expensive tier of coverage than single coverage. IRS Notice 2010-82 and the related FAQs provide many examples to illustrate the application of these rules. The end of this summary includes a chart identifying where these documents can be found.

If an employee is receiving coverage that is more expensive than single coverage (e.g., family coverage), the employer generally need only pay at least 50% of the premium for single coverage for that employee (even if it is less than 50% of the premium for the coverage the employee is actually receiving).

Qualifying health insurance is health coverage from an insurance company licensed under State law or a self-funded church plan. However, health reimbursement arrangements (HRAs), flexible spending accounts (FSAs), health savings accounts (HSAs) and self-funded plans other than church plans are not Qualifying Arrangements and employer contributions for these plans are not eligible for the Tax Credit.

Special Rules for Clergy

Inclusion in FTEE and Average Annual Wage Calculations Depends on Employment Status: Clergy who are considered common-law employees of a church employer for income tax and benefits purposes (i.e., they generally receive a W-2 Form from you) are counted as employees for purposes of the Tax Credit, with respect to your FTEE calculation and the premiums paid for coverage. If, under the common-law test, the clergyperson is considered self-employed (and thus generally receives a 1099 Form from you), he or she is not taken into account for the Tax Credit.

In addition, even if a clergyperson is counted as an employee for calculating the number of FTEEs, the clergyperson’s compensation is not included in the calculation of average annual wages because his/her wages are not subject to FICA. This exclusion may be beneficial by resulting in a lower overall average wage, because clergy wages are excluded from annual wages in the calculation, but clergy are included in the calculation of the number of FTEEs.

Impact of Lack of Tax Withholding With Respect to Clergy on Available Tax Credit: As described above, the amount of the Tax Credit is limited to the aggregate amount of federal income and Medicare taxes an employer withholds from employee compensation, plus the employer portion of Medicare taxes. Regardless of the clergyperson’s employment status, employers do not pay Medicare taxes on behalf of clergy or withhold Medicare taxes from their pay, and many churches do not withhold federal income taxes from clergy compensation. Therefore, if you do not withhold federal income tax from your clergy compensation, your potential tax credit will be limited by the amount of federal income tax and Medicare tax you withheld from your lay employees’ compensation plus the amount of Medicare taxes you contributed on your lay employees’ behalf. This is true even if you reimburse your clergy for any portion of SECA taxes. SECA tax payments are not available for the Tax Credit.

In some cases, to maximize the potential Tax Credit, clergy may wish to have federal income taxes voluntarily withheld from their compensation.

Affiliated Entities

All employers who are part of the same “controlled group” are considered one employer for purposes of the Tax Credit. Therefore, for example, all employees of the controlled group must be counted in the FTEE calculation (except the employees not taken into account which are described above, such as seasonal employees). The controlled group rules rely on the controlled group rules in Internal Revenue Code §§ 414(b), (c) and (m).

It is not clear exactly how the controlled rules apply to churches and their affiliated organizations. If your organization shares day-to-day operational and financial control with another church or church-affiliated employer (such as a day care facility), the two employers might be treated as one employer under these rules; making it more difficult to qualify for the Tax Credit. If you have an affiliated organization, you should discuss with your legal and/or tax advisor how to calculate the number of employees for purposes of the Tax Credit.

The Amount of the Tax Credit

The Tax Credit is a percentage of the amount you pay for qualifying healthcare coverage. It is applied as a refundable credit, which is limited by certain payroll taxes as discussed below. The maximum credit for 2011 through 2013 is 25% of the premiums you pay for qualifying health coverage. After 2013, the Tax Credit increases to a maximum of 35% of premiums paid by an employer, but only applies to premiums paid by the employer for coverage purchased from the state health care exchanges, which will be established by each state under the PPACA.

However, the full tax credit may not be available in all circumstances. First, the full tax credit is available only if you have 10 or fewer FTEEs with average annual wages of $25,000 or less. The credit is phased out as your FTEE count or the average annual wages increases. Second, if the premiums you pay for qualifying health coverage exceed the average premium for policies in the small group markets in your state, your credit will also be limited. The state average premiums are listed in the Instructions to Form 8941.

The Tax Credit is taken as a refundable credit against any federal income taxes and Medicare taxes withheld from your employees’ pay, plus the amount of your share of Medicare tax obligations. The Tax Credit is therefore limited to the amount of these payroll tax obligations for all of your employees.

If a church has only clergy employees and is not paying any FICA taxes or withholding any federal income taxes, the Tax Credit may not be of any value.

How to Claim the Tax Credit

If you are eligible for the Tax Credit, use Form 8941 to calculate the amount of your Tax Credit. Then claim the Tax Credit on Line 44f of Form 990-T. You may have never filed this form as it is usually used only when church entities have unrelated business income (UBIT). However, you must file Form 990-T to claim the Tax Credit, even if you don’t have UBIT. Form 990-T must be filed by May 15, 2012 for employers with a fiscal year ending December 31, 2011.

Use the following steps to determine your eligibility for the Tax Credit with respect to 2011 and to calculate the amount of the Tax Credit. You may also wish to review the example on page 6.

Step One: Did you pay at least 50% of the premium for single coverage for each of your employees enrolled in the plan(s) offered by your church or organization during tax year 2011?

Yes ___ No ___

If no, you do not qualify for this tax credit for tax year 2011.

Step Two: Calculate the number of FTEEs by adding up the hours worked by each employee in 2011 (but do not include more than 2,080 hours for any employee) and dividing this sum by 2,080. If the answer is not a round number, round the number down to the next whole number. However, if this number is less than 1, you may round up to 1. If this number is 25 or more, you do not qualify for this tax credit.

Important Note: As a reminder, the calculation of FTEEs should include any clergyperson who is a common-law employee, but excludes any excluded employees described above (such as certain seasonal employees).

Step Three: Calculate the average annual wages of your employees by adding the 2011 wages of all employees subject to the FICA tax and dividing this sum by the number of FTEEs (as determined under Step Two). If the answer is not a round number, round the number down to the nearest $1,000. If this number is $50,000 or more, you do not qualify for this tax credit.

Important Note: Do NOT include clergy wages in this calculation as clergy wages are not subject to FICA tax. Also, do not include the wages of excluded employees described above, such as certain seasonal employees.

Step Four: Based on the number of FTEEs and average wages, use the table in the Appendix to determine the applicable Tax Credit percentage.

Step Five: Calculate the amount of the Tax Credit. Use Form 8941 to assist you with this calculation and attach the form to your tax return. Remember that your Tax Credit may be limited by two factors (1) the actual federal income tax and Medicare taxes withheld and remitted, and (2) the average premium for the small group market in your state.

Step Six: Enter the amount of the Tax Credit on Line 44f of Form 990-T and file the form by May 15, 2012 (for calendar year taxpayers).

Additional Information

For additional information, such as how any state subsidy for health insurance premium would impact the Tax Credit available or how the Tax Credit is calculated with respect to separately provided dental or vision coverage, please see the IRS Resources below.

IRS Resources

An Example

A local church has one clergyperson. Let’s assume the clergyperson is considered an employee under the common-law test and the clergyperson works 2,080 hours per year. The church also has 2 full-time lay employees who each work 2,080 hours per year and 2 part-time lay employees who each work 1,040 hours per year. The clergyperson is paid $60,000. Employee 1 is paid $35,000, employee 2 is paid $25,000, and employees 3 and 4 are each paid $12,500. The church has enrolled its clergyperson and 2 full-time employees in its denominational church health plan. The church pays all (100%) of the single employee-only premium, which is $6,000 per employee, on behalf of each employee. The church pays $18,000 for the coverage ($6,000 per employee), which is single coverage. The church is located in Illinois.

Calculate the FTEEs for the church

Hours Worked: Employee 1 (2,080); Employee 2 (2,080), Employee 3, (1,040), Employee 4 (1,040), Clergyperson 1 (2,080). Total hours: 8,300.

FTEEs: 4 (8,300 hours ÷ 2,080 hours)

Calculate average wages

Wages: $35,000 + $25,000 + $12,500 + $12,500 = $85,000 aggregate wages. The clergyperson’s wages are not counted.

Average Wages: $85,000 ÷ 4 FTEEs = $21,250 per FTEE; rounded down to the nearest $1,000 = $21,000 per FTEE. Note, the clergyperson is counted as an employee, even though his or her wages are not included.

Applicable Tax Credit Percentage

According to the table in the Appendix, the church is eligible for a credit of 25%.

Calculate Tax Credit

Employer Health Care Costs: $18,000 ($6,000 × 3). Premiums paid to cover the clergyperson are counted because the clergyperson is a common-law employee.

Average Illinois Premium: $5,565 for coverage. Because the average Illinois premium for single coverage is less than the amount the employer paid for single coverage, the amount the employer paid for premiums that may be counted for purposes of calculating the Tax Credit is limited. The church can only claim $5,565 per employee (what it would have paid if the coverage were average Illinois coverage). The maximum premium cost that can be taken into account for this employer is $16,695 (100% of $5,565) x 3 employees (the number of employees for whom the employer pays for health coverage).

2011 Tax Credit: $4,173.75 (25% x $16,695). This amount is refundable as a credit as long as the church has withheld at least that much from employee wages combined with what the church has paid in employer Medicare taxes.

The worksheets contained in the Instructions for Form 8941 may also be helpful to employers who are trying to determine the amount of credit they may be able to claim.

Appendix

Small Business Tax Credit, Nonprofit Firms in 2010-2013
(Source: Congressional Research Service Analysis of PPACA)

.	Average Wage
Firm Size	≤ $25,000	$30,000	$35,000	$40,000	$45,000	$50,000
≤ 10	25%	20%	15%	10%	5%	0%
11	23%	18%	13%	8%	3%	0%
12	22%	17%	12%	7%	2%	0%
13	20%	15%	10%	5%	0%	0%
14	18%	13%	8%	3%	0%	0%
15	17%	12%	7%	2%	0%	0%
16	15%	10%	5%	0%	0%	0%
17	13%	8%	3%	0%	0%	0%
18	12%	7%	2%	0%	0%	0%
19	10%	5%	0%	0%	0%	0%
20	8%	3%	0%	0%	0%	0%
21	7%	2%	0%	0%	0%	0%
22	5%	0%	0%	0%	0%	0%
23	3%	0%	0%	0%	0%	0%
24	2%	0%	0%	0%	0%	0%
25	0%	0%	0%	0%	0%	0%