Who takes the tax deduction when the S corporation pays health and accident insurance premiums on behalf of a greater than 2-percent shareholder-employee? There are rules to consider when it comes to the reporting and deductibility of these premiums for the shareholder-employee.
When an S corporation pays the premiums on behalf of the shareholder-employee, the entity receives a deduction as compensation expense. The shareholder-employee is required to report the premium payment received as wages on their Form W-2 in Box 1 (Wages). It is, however, not included in Boxes 3 and 5 of Form W-2, as these additional wages are not subject to Social Security, Medicare (FICA), or Unemployment (FUTA) taxes.
A greater than 2-percent shareholder-employee, however, is eligible for an above-the-line deduction in arriving at Adjusted Gross Income for the amount that has been included in the wages for health and accident insurance premiums. This above-the-line deduction will be granted only if the medical care coverage was established by the S corporation and the premiums are properly included on Form W-2. If not reported on Form W-2, the shareholder-employee risks losing the deduction completely.
Under the Affordable Care Act (ACA), employers are required to report employer-paid health care costs on an employee’s W-2. In addition, as of 2013, the ACA imposes penalties on the S corporation if the S corporation offers a health plan that fails to comply with certain market reform provisions. Employers should check with their health insurance broker regarding the company’s compliance with the market reform provisions and also ensure appropriate reporting of the premiums in order to claim the deduction.
Notice: IRS Notice 2008-1 defines a 2-percent S corporation shareholder as “any person who owns on any day during the taxable year of the S corporation more than 2 percent of the outstanding stock of such corporation or stock possessing more than 2 percent of the total combined voting power of all stock of such corporation.”
Learn more about S Corporation Compensation and Medical Insurance Issues.
Author, Dov Neuhaus, CPA
Senior Tax Manager
Any accounting, business or tax advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties.