Guest Article

(From the May 3, 2010 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Tax Treatment of Health Care Benefits for Children under Age 27

Newly issued IRS guidance sheds light on the impact of changes made by the Patient Protection and Affordable Care Act as amended (PPACA) that extend the IRC § 105(b) exclusion from gross income for reimbursements for medical care under an employer-provided health plan to any employee's child who has not attained the age of 27.

IRS Notice 2010-38 addresses the changes made by the PPACA to extend health coverage to adult children. The PPACA requires group health plans (and health insurance issuers) that provide dependent coverage of children to continue to make such coverage available for an adult child until age 26. This change is effective for plan years beginning on or after September 23, 2010. The PPACA also amended IRC § 105(b) to extend the exclusion from gross income for reimbursements for medical care under an employer-provided plan to any employee's child who has not attained age 27 as of the end of the taxable year. This change is effective March 30, 2010.

Exclusion from Gross Income under IRC § 105(b)

IRC § 105(b) excludes from the employee's gross income employer-provided reimbursements for the medical care of the employee, spouse or dependents. The PPACA extended this exclusion to include reimbursements for the medical care of an employee's child who has not attained age 27 as of the end of the taxable year. The Notice makes clear:

Exclusion from Gross Income under IRC § 106

IRC § 106 excludes from an employee's gross income coverage under an employer-provided health plan. The regulations under IRC § 106 provide that the exclusion also applies to coverage for the employee's spouse and dependents. The Notice states that:

Cafeteria Plans, FSAs and HRAs

IRC § 125 allows employees to elect between cash and certain "qualified benefits" - e.g., health plan coverage, health flexible spending arrangements - without triggering taxable income. A "qualified benefit" is generally defined in IRC § 125(f) as any benefit that is not includible in gross income by reason of an express provision of Chapter 1 of the IRC. As such, the Notice makes clear:

The same rules that apply to an employee's child under age 27 for purposes of IRC §§ 105(b) and 106 also apply to health reimbursement arrangements (i.e., arrangements to reimburse employees for medical care expenses that are paid exclusively by the employer).

FICA and Income Tax Withholding

As explained in the Notice, coverage and reimbursements under an employer-provided health plan for an employee's child under age 27 are not wages for FICA or FUTA purposes, and are also exempt from income tax withholding.

VEBAs, IRC § 401(h) Accounts and IRC § 162(l) Deductions

VEBAs provide health benefits to their members, spouses and dependents. IRC § 401(h) allows pension plans to establish a separate account for the payment of medical expenses of retired employees, their spouses and dependents. IRC § 162(l) allows self-employed individuals to deduct amounts paid for medical insurance for the taxpayer, spouse and dependents. The Notice makes clear, for each of these purposes, that "dependent" includes the individual's child who has not attained age 27 as of the end of the calendar/taxable year.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations. If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Bart Massey 202.220.2104, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Deborah Walker 202.879.4955. Copyright 2010, Deloitte.