(This inform is not updated to reflect 2019 proposed regulations so should be presumed to be partially obsolete).
I normally offer a free mini-consultation by telephone for prospective clients1. This allows us to get to know each other, prove that value provided will exceed the costs incurred, and lower risks of misunderstanding and miscommunication. But this week I had trouble connecting with a small business owner in California so we agreed to a written Q&A exchange. This is a reformatted reproduction of this written communication about a Qualified Small Employer Health Reimbursement Arrangement.
In this discussion we are focused on the QSEHRA because this is the only one of the three types of small business HRAs that allows a business to reimburse employees for the cost of individual medical insurance. However, in most cases I do not recommend the use of a QSEHRA die to the restrictive compliance requirements.
Suitability – Does a Health Reimbursement Arrangement work when a spouse of the owner is the only employee?
Yes, the situation where the spouse is an employee of the owner and receives employer-provided family health benefits is the valid workaround to laws that otherwise restrict self-employed health benefits, This allows benefit plans like the HRA to be effective. There is substantial legal authority allowing the employee/spouse to receive full medical benefits that cover the self-employed business owner/spouse.
Plan Documents – I notice that you propose three documents; Plan Document, Summary Plan Description, and Sample Corporate Resolution. Is this all that the IRS requires or are more needed?
No, the IRS does not require these documents. The IRS simple requires that the HRA plan be in writing and provides no further requirement. State law typically controls small business legal issues and therefore governs the design of business legal documents. I believe the sample documents I use are appropriate and sufficient under state law but I am unable to give legal advice. Virtually all employee benefits providers and advisers use a ‘small print disclosure’ advising you to consult with your own attorney on legal matters.
Claim Administration – I’m not sure if this section applies to me or not. I’m unsure what this means for me.
You are proposing a plan that provides for uninsured benefits but third party claims administration would not be necessary of advisable in your case. The primary benefits of third party administration: avoiding HIPAA violations, minimizing employer liability and providing a paper trail in the event of audit, so not appear to be worth the effort in your case. You can legally administer the claims yourself (handing it just as you would any other business expense).
Individual health insurance – Can I still deduct insurance premiums paid on schedule C use do I have to use an HSA/FSA to make these premium payments before tax?
Self-employed people typically deduct the cost of their health insurance “above the line” on the 1040 individual tax return, not as a business expense on the Schedule C. (I am not suggesting that you do this but would need more specific tax and income information to discuss it). The QSEHRA allows the business to deduct the cost of individual health insurance and other non-insured health costs, as you intend, that otherwise would not be deductible to a business. It appears that in your special circumstance with a spouse/employee you could
Risk: Should we assume that there is a significant risk that the plan may not meet all IRS requirements?
I would not call it a “significant risk” since there are no known cases of injury to a small business and no sign of planned future action by IRS in this area, such as the issuance of audit guidance for QSEHRAs. But QSEHRAs were brand new in 2017 so there is no case law and no practical guidance to be used as references to the responses to questions you pose here today. (Normally a tax adviser cites tax law to back up opinions presented on specific issues. I am not able to do that in his case beyond the general guidance on QSEHRAs). Additionally, the political climate presents an unstable environment where the administrative branch has shown intent to systematically undermine this areas of tax law so I am unable to predict where this turmoil may lead. I would say that there is small risk that is footnoted when we discuss the use of a QSEHSA.
Do I need a private letter ruling?
Small businesses usually do not seek private letter rulings on their employee benefit plans because the cost would be disproportionate to the tax savings realized. Although IRS is aware that more than 50% of small business benefit plans contain some type of deficiency, we rarely see any effort by IRS to correct these routine administrative and compliance issues. This system is primarily based on voluntary compliance by small business employers.
1I offer small business employee benefit plan services through Freedom Benefits.