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BenefitsLink > Q&A Columns >

Who's the Employer?

Answers are provided by S. Derrin Watson, JD, APM

Independent Contractors on Health Plan

(Posted June 12, 2002)

Question 197: Our company has only 3 employees on the payroll. Everyone else is an independent contractor, whose pay is reported on an IRS Form 1099. Because we have only three employees, our health insurance rates are going through the roof, and we'd like to offer coverage to our contractors. Will this put us in a bad position?

Answer: Let's just say "I think you ought to think this through again."

Let's start with the basic qestion of whether your "contractors" actually are your employees. This will depend on the facts of your situation. As I've emphasized in recent Q&As and in Chapter 2 of my book, Who's the Employer, giving someone a Form 1099 simply reflects that you believe they are an independent contractor. It does not determine that status as a matter of law.

Let's assume they are independent contractors, though. Covering them under your plan probably is not a good idea. Here's why:

  • Take a good look at your insurance policy. It probably covers only employees. Thus, the insurance company could end up disputing whether a worker is entitled to coverage if you try calling them "employees" for health plan purposes only.

  • Internal Revenue Code section 106 excludes from an employee's income amounts the employer pays for health plan coverage. There is no comparable exclusion for amounts paid for an independent contractor. Therefore 100% of the money put into the plan will be included in the contractor's income, although they will be able to deduct a large amount of it under another section.

  • Providing health benefits is an element that is considered in determining employee status. In other words, if you call them employees to get them health plan coverage, you increase the probability that a court or the IRS will find them to be employees for other employment law purposes (such as FICA and FUTA taxes).

  • Let's just pretend for a moment you get past all those hurdles. If they really are independent contractors, now you probably have a multiple employer welfare arrangement (MEWA), which must file a separate form with the DOL and is subject to state insurance regulation.
Notice that I am not suggesting that you call them employees for health plan purposes but independent contractors for payroll tax purposes. The rules are close to identical for everything. Once you are an employee, you are an employee. That means taxes are withheld from your pay. It also means that, if you are otherwise eligible, you are entitled coverage under any other employee benefit programs the company offers. It is possible to exclude workers from certain plans, but this must be done carefully, and with the aid of legal counsel.


Important notice:

Answers are provided as general guidance on the subjects covered in the question and are not provided as legal advice to the questioner or to readers. Any legal issues should be reviewed by your legal counsel to apply the law to the particular facts of this and similar situations.

The law in this area changes frequently. Answers are believed to be correct as of the posting dates shown. The completeness or accuracy of a particular answer may be affected by changes in the law (statutes, regulations, rulings, court decisions, etc.) that occur after the date on which a particular Q&A is posted.


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