Most people assume all businesses can provide health insurance to their employees and owners on a tax-free basis. While this is true for C-corporations, it isn’t the case with an S-corporation.
S-corporations can provide health insurance as a tax-free fringe benefit to their non-owner employees.
S-corp owners can’t receive health insurance as a tax-free fringe benefit
Greater than 2 percent shareholders must include the cost of their health insurance as income, according to Section 707(c) of the Internal Revenue Code. This means the amount S-corp owners pay for their health insurance is subject to income tax, as well as Social Security and Medicare tax.
Unlike owners of an LLC or a partnership, S-corp owners can’t get around this rule by employing their spouse and getting covered through their participation in the plan.
For health insurance purposes, spouses and other family members of an S-corp owner are treated as though they were an S-corp owner themselves. This is true even if the family members don’t have any stock in their names.
Personal income tax deduction for health insurance premiums
S-corp owners may not have the same access to tax-free health insurance as non-owner employees, but they can still ensure their premiums are tax-advantaged. Specifically, S-corp owners can take a personal income tax deduction on the health insurance premiums paid by the business.
For S-corp owners to qualify for the deduction, their health insurance policy must be established by the business and not by the S-corp owner personally.
To determine whether the policy is established by the business, the IRS considers:
- Who pays the premiums for the policy, and
- How the premiums are reported for income tax purposes by both the business and the S-corp owner.
The business must pay the S-corp owner’s premiums directly. It must also include the premiums as gross wages in the S-corp owner’s Form W-2. If the S-corp owner pays the policy premiums on their own and then gets reimbursed by the business, this does not qualify the owner for a tax deduction.
If the S-corp owner does qualify, they can deduct their premiums on Form 1040, line 29. S-corp owners can use this method to deduct premiums for accident, dental, and long-term care policies as well as for health insurance policies.
See also our blog post: How S-corporation owners can deduct health insurance expenses