NEW SMALL BUSINESS AND NONPROFIT HEALTH CARE TAX CREDIT

Paul Nidich, LL.M.

The Patient Protection and Affordable Care Act, P. L. 111-148, signed into law by President Barack Obama on March 23, 2010, provides a health care tax credit for qualified small businesses and 501(c) organizations exempt from taxation under Section 501(a). 26 U.S.C. §45R. A qualifying small business or a qualifying tax-exempt organization has fewer than 25 full-time equivalent employees (FTE) who earn an average of less than $50,000 per FTE.  There are a number of steps to be followed to determine whether the employer is eligible for the credit. (This is a very simplified introduction to this credit.)

The first step is to determine which employees of the organization are taken into account.  Neither owners nor partners, for example, are taken into account in the formulas that follow.  Then, determine the number of hours worked by those employees.  (Include actual hours worked and hours for vacation, holidays, and illness for which the employee was paid, but not more than 2080 hours for any individual.)  Take the total hours worked and divide that number by 2080, rounding down to the next lowest whole number.  This yields the number of FTEs who work for the employer.

If this total is less than 25 FTEs, find the sum of the total annual wages of these employees.  Divide the total wages paid by the total number of FTE positions arrived at, above.  If the result is less than $50,000, go on to the insurance premium part of the qualification test.

The Department of Health and Human Services has calculated the average premium for the small group market in each state.  The credit is determined by taking the percentage of the insurance premium paid by the employer and applying that to the small group market average premium.  For example, the employer pays 50% of both the single coverage and family coverage of the relevant employees.  The credit is calculated by using the lesser of the actual premiums paid by the employer or 50% of the small group market premiums for the number of employees electing single coverage plus the number of employees electing family coverage. (Payments for health insurance coverage made by an employer under a section 125 cafeteria plan do not count.)

The next part of the credit calculation changes each year for tax years 2010 through 2014.  The 2010 credit calculation uses 35% of the figure arrived at in the previous paragraph for small businesses and 25% of that figure for tax-exempt employers.  The credit is then applied against the taxable income of the business, it is a refundable credit for tax-exempt employers, capped at the total amount of income and Medicare tax withheld from its employees plus the employer share of the Medicare tax on the employees’ income. The IRS has published a draft of Form 8941, “Credit for Small Employer Health Insurance Premiums,” that will be used by both small businesses and tax-exempt organizations when filing for tax year 2010.  IRS also has extensive information available on its web site, http://www.irg.gov.