Many businesses start small and choose to stay small. If you're a small business owner, understanding what a Section 105 Medical Reimbursement Plan is can end up saving you a lot throughout the course of the year. A Section 105 medical reimbursement plan is an effective way to save money on taxes as it allows business owners to reimburse themselves, tax-free, for medical expenses. The plans help small business owners offer health benefits to employees without the headache, hassle, and cost of group health insurance. Even if you are your only employee, you may be eligible to participate in a Section 105 plan. Whether or not you are eligible to receive tax-free reimbursements depends on your owner status and how you file taxes.
Similar to a business expense account, a Section 105 plan provides employees an allowance to use on health insurance. This medical reimbursement plan is named after Section 105 of the IRS code, which allows an employer to reimburse employees, and their dependents, for their out-of-pocket medical costs and health insurance premiums under an employer-sponsored health plan. It's important to note that a Section 105 plan is not health insurance. It's just a means to reimburse employees for medical and individual health insurance expenses.
Your ability to deduct medical expenses via a Section 105 plan as a business owner depends on a few major requirements. First, the plan must be fully employer-funded. No portion of the plan can be funded through employee salary deduction. Second, you can only reimburse eligible and substantiated medical expenses and health insurance premium amounts. If an expense is not included on the list of standard pre-approved expenditures, then a physician’s note documenting the medical necessity of the expense may be required.
Third, you must be considered an employee of your business, meaning you must draw a regular W-2 salary or wages from the business in order to qualify as an employee in the eyes of the IRS. If you are not legally considered an employee of your business, but you can legitimately employ your spouse as an employee, you may be able to take advantage of the Section 105 plan.
Lastly, your ability as a business owner to reimburse yourself, tax-free, for your medical expenses depends on your owner's status (as dictated by business structure/tax filing status).
C Corp owners who receive a regular salary from their business are considered employees and can fully participate in Section 105 plans and receive all reimbursements 100% tax-free, just like non-owner employees.
Sole Proprietorships & Partnerships
If you are a sole proprietor, you cannot establish a Section 105 medical reimbursement plan solely for yourself and have your business reimburse you for out-of-pocket medical expenses on a tax-free basis, as your reimbursements are subject to state and federal income tax withholding.
S Corp business owners who own less than 2% of the business’s shares and who are active in the business qualify for a Section 105 plan. An S Corp business owner who owns more than 2% of the business’s shares can technically participate in the Section 105 plan, but as is the case with sole proprietorships and partnerships, reimbursements are not tax-free.
If your business is structured as an LLC, then the rules around your participation in a Section 105 plan vary based on how you file your taxes. As a partnership, sole proprietorship, or corporation. The appropriate rules outlined based on the filing status above apply.
Section 105 medical reimbursement plans continue to grow in popularity and are commonly used by small business owners as a health insurance solution that cuts down on costs and complications. It has been estimated that Section 105 plans save small business owners an average of $5,000 per year on their taxes.
The best thing to do if you're looking for a new health insurance policy or looking to make changes is to get in touch with a qualified health insurance agent. They'll help you assess your needs and walk you through your best options.