General Tax

Reporting Shareholder Health Insurance Premiums on a W-2

by Matthew Cohen, CPA

BASICS

If you read my article about S-corporation shareholders, you know it is important for them to take wages and report them on a W-2.

On a separate front but somewhat related, the IRS does not allow S-corporation shareholders that own more than 2% of the company to take a deduction for their health insurance premiums.

If the company pays health insurance premiums for subject shareholders and their families, there is a protocol to do so.

STEPS TO TAKE

The first step is to report the premiums on the company’s profit and loss statement (P&L) as a deduction.  Wait…What?  At this point you are probably asking yourself…

‘How can the company deduct the premiums if they are not deductible?’

The answer is, the premiums are not deductible to the shareholder.  Although the premiums are deducted at the company level, the shareholder is then required to add them back the as taxable wages on their W-2.Stethoscope

Health insurance premiums need to be reported to the payroll processor prior to preparing the W-2.  We recommend doing this right after the December premiums are paid to ensure there is adequate time to update the form.

In general, this ‘washes out’ as the premium deduction lowers the shareholder’s taxable K-1 income but adds back that same amount as taxable wages.

It is important to note that this is paper transaction.  Other than the company paying the premiums, no other cash is exchanged.

The shareholder is not subject to payroll taxes for the additional income.  This is done by adding the premiums to taxable wages on the W-2 (Box 1), but not to the Social Security and Medicare wages (Boxes 3 and 5).

Medical insurance premiums paid lower self-employment tax.  Neither wages nor S-corporation K-1 income are considered self-employment income.  If the shareholder has no other source of earned income, this whole process is an exercise in futility.

On the other hand, if the shareholder has self-employment income from other sources, they can take an adjustment on their return to lower the self-employment tax by the amount of premiums added to the W-2.

EXAMPLE

Health Insurance Premiums

  • Paid by S-corporation on behalf of 50% shareholder (and family if applicable) – $15,000
  • Deduction on S-corporation P&L – $15,000

W-2 taxable wages prior to reporting premiums

  • Box 1 (taxable wages) $100,000
  • Box 3 (Social Security wages) $100,000
  • Box 5 (Medicare wages) $100,000

W-2 taxable wages with health insurance premiums included in Box 1

  • Box 1 (taxable wages) $115,000
  • Box 3 (Social Security wages) $100,000
  • Box 5 (Medicare wages) $100,000

As you can see, the $15,000 premiums are deducted from the corporation and then added to the Shareholder’s W-2.  If the company has only one shareholder, the premiums are not deductible and everything zeroes out.

THE RUB

Things can become inequitable if there is more than one shareholder.  In this case, one shareholder may have a relatively low percentage of ownership and only recognize a small portion of the deduction at the corporate level, while having disproportionately high health insurance premiums which are all added back to his or her W-2.

In any case, it is important for both the S-corporation and the shareholder/employee adhere to these guidelines so as not to have issues with the taxing authorities.