The IRS recently released a legal memorandum (CCA 202323006) concluding that wellness indemnity payments under an employer-funded, fixed indemnity insurance policy (including where premiums are paid through salary reductions) are included in the taxable income of employees. The memo also concludes that these taxable benefits are subject to employment taxes, including federal income tax withholding (FITW), Federal Insurance Contributions Act (FICA) taxes and Federal Unemployment Tax Act (FUTA) taxes.
Under the arrangement addressed in the memo, in addition to comprehensive health coverage provided to its employees, the employer provides all of its employees with the ability to enroll in coverage under a fixed-indemnity health insurance policy that would qualify as an accident and health plan under Section 106. For this additional coverage, the employees pay monthly $1,200 premiums by salary reduction through a 125 cafeteria plan.
The fixed-indemnity health insurance policy is a voluntary program primarily intended to supplement the employer’s other comprehensive health coverage through the provision of wellness benefits. One type of wellness benefit provided by the fixed-indemnity health insurance policy is a monthly payment of $1,000 if an employee participates in certain health and wellness activities. For example, use of preventive care, such as vaccinations, under the employer’s comprehensive health plan in which an employee is enrolled, qualifies the employee for the payment for a month.
This guidance comes after some employee benefit plan advisors have claimed that the benefits provided by these types of policies are excludable from taxable income and employment taxes under various accident and sickness income exclusions. However, the IRS clarified that these types of wellness benefit payments are included in employee taxable income and subject to employment taxes because the payments do not constitute a reimbursement of actual expenses incurred for medical care, and, as such, are considered “wages” as defined under the FICA, FUTA and FITW rules.
Contact:
Jeff Martin
Partner, Washington National Tax Office
Washington, D.C.
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