I have an S-Corporation and would like to set up a medical-reimbursement plan. How should I go about it?
-- A.D., Meridian, Idaho
Unfortunately, as an S-Corp, your company cannot legally establish a medical-reimbursement plan -- unless you want to set up a plan that covers only your employees and not yourself or your family. (This is something very few business owners want to do.) You must have a C-Corp in order to establish a medical-reimbursement plan.
While they've existed for many years, medical reimbursement plans are just one of a number of alternatives and supplements to health insurance that are beginning to gain popularity. These alternatives, including health savings accounts and flexible-spending arrangements -- many offered as part of so-called "cafeteria plans" -- help companies cope with the high cost of providing medical-insurance benefits to their employees. Under flexible-spending accounts, established by law in 2004, employees can set aside pretax money from their paychecks to cover uninsured medical costs. Employers can contribute to the accounts on their employees' behalf, if they wish.
"TOO EXPENSIVE." While the medical-reimbursement plan won't work for you, you may want to explore some of the other options -- like flexible-spending accounts and and health savings accounts -- open to S-Corp owners, says Paul Devore, a certified financial planner with Financial Management Services in Encino, Calif., which consults on employee benefits and financial planning for small companies.
"This kind of alternative is going to be growing over the next few years, especially with health-care costs going so high," Devore says. "It's just too expensive for many employers" to purchase high-end insurance coverage.
With something like a flexible-spending account plan in place, employers may be able to buy a less expensive medical plan with a high deductible and then cover employees' nonreimbursed expenses up to a certain limit or allow them to pay for out-of-pocket costs themselves out of tax-favored accounts.
PORTABLE ACCOUNTS. For a primer on flexible-spending accounts and other tax-favored health plans, check out IRS Publication 969. These accounts typically allow your employees to pay for nonreimbursed medical or dental expenses with money they set aside from their salaries. If they use the money to pay qualified medical expenses, they won't have to pay income tax on it.
With some plans, the accounts are portable, so employees can keep them even if they change employers during a particular year. The accounts can also be structured so that unspent money set aside during one year can carry over for use in another year when medical expenses arise. Earnings from the account are usually also tax-free.
"You'll typically see [flexible-spending accounts] in larger companies, more so than small companies, because they require extensive administration," Devore acknowledges. And most small-business owners lack the time or expertise to complete the paperwork required. However, those interested in these accounts may be able to arrange for them by hiring professional employer organizations or other third-party administrators to run them.
NONTAXABLE AND DEDUCTIBLE. Devore's small firm, a C-Corp, has a medical-reimbursement plan that covers insurance deductibles and co-payments for his employees and himself. "The money comes out of the corporation like rent or any other expense we have," he says. "It also covers our employees if they submit health expenses that their insurance will not cover. The benefits are not taxable income to them, and they're fully deductible by the corporation, just like we deduct the cost of health insurance."
Start your explorations by talking to your accountant about the various plans available and which might best suit you and your corporation. Next, you'll need to set up a plan document that lays out the parameters. You can typically find such documents in boilerplate versions that are fairly easy to complete. While you don't file your plan document with any official government agency, you must keep a record of it with your corporate minutes, should you face an audit.
Will one of these plans really work for you? "Do the math," Devore says. "If you own a one-person corporation, it's a no-brainer. The corporation pays what would be nondeductible medical expenses for you on a tax-deductible basis. If you've got one or more employees, you have to decide how much you want to spend on them. If you're willing to spend a significant amount on your employees to attract top talent, it's worth it."
OPEN TO ALL. You have to make medical-reimbursement plans, flexible-spending accounts, and health savings accounts nondiscriminatory, meaning you must offer them to all your employees -- not just top executives. However, you can include certain criteria in your plan document that limits eligibility to full-time employees or those with a certain level of tenure.
One of these health savings plans might just do wonders for your company's health.