High Cost Health Insurance

It's a sad reality that few gift, home furnishings, and stationery retailers can afford the protection of health insurance for themselves, let alone their employees. Among those that can, double-digit increases in the cost of medical insurance are leading to severe limits in this popular fringe benefit — or discarding it altogether. And unfortunately, matters are predicted to get worse.

What can a gifts and decorative accessories business owner do? Clearly there's no one-size-fits-all solution. There are, however, several strategies and tax deductions that can reduce the out-of-pocket expense of health insurance, making it more affordable for the average retail business.

Under U.S. tax rules, self-employed specialty retailers may deduct 100 percent of amounts paid for health insurance coverage for themselves, spouses, and dependents. The deduction is limited to the income earned from your business minus 50 percent of the self-employment tax you pay and/or contributions to a KEOGH, SEP, or SIMPLE retirement plan. Although such health insurance premiums are fully deductible, they unfortunately come out of the (already taxed) profits of the business.

On the other hand, health insurance or group health plans paid for by the business entity involve pre-tax, rather than after-tax, dollars. (Any business or group plan that fails to provide continuing coverage to all qualified employees may subject an employer to an excise tax or penalty.)

Premiums paid for group health insurance plans that cover employees are deductible by the employer only. However, in many cases a small business owner can be classified as an employee of his own business. In an incorporated business operating as an entity known as an S Corporation, only those benefits received by employees owning 2 percent or less of the company's stock are deductible as a business expense. Therefore, an employee owning more than 2 percent of S Corporation stock is treated as a partner. He or she can deduct 100 percent of their medical insurance premiums, as well as those of a spouse and dependents — but only on individual income tax returns.

The value of health insurance provided to a partner is generally treated as a guaranteed payment. The value of the benefit is therefore deductible by the partnership; it is included in the partner's gross income, and is offset by a tax deduction for 100 percent of the cost of the health insurance premium paid on his or her behalf.

Lately, a growing number of small businesses are banding together to take advantage of the economies of scale and gain more clout with health insurance carriers. Many trade organizations and other groups also offer health insurance plans for small-business owners and their employees at lower rates.

While your business may have only a few employees, uniting with other members of an organization can give it substantial influence with insurers. In such cases, the insurance carrier issues a policy to the whole association, often at better rates, and your business's coverage can't be terminated unless the carrier cancels coverage for the entire association.

But trade associations aren't the only option. In some states, business owners have set up health insurance networks among businesses that have nothing in common but size and location.

Another option is to vary the amount of deductible paid in an insurance plan. If a gift shop owner has little or no cash reserves, he or she might be looking for HMO-type coverage with a small deductible or none at all. Of course, owners that have some cash in reserve can afford a higher deductible.

Medical savings accounts, or MSAs, combine high-deductible health insurance with a savings plan where tax-deferred deposits accumulate over time, similar to an individual retirement account (IRA). When the money is needed, it's simply withdrawn from the MSA tax-free.

MSAs are available to retailers with fewer than 50 employees. A high-deductible insurance plan (with minimum deductibles of $1,650 for individuals and $3,300 for families) can be purchased for employer and employees. To cover those high deductibles, each person under the plan contributes to an MSA in order to cover out-of-pocket expenses.

All withdrawals used to cover out-of-pocket medical expenses are tax-free, and money left over in the MSA at the end of a calendar year continues to accumulate on a tax-deferred basis. After age 65, money can be withdrawn from the MSA without penalties. Such withdrawals will be taxed as regular income.

Congress is currently considering eliminating the "test" status of MSAs and making them a permanent option. If it doesn't, established MSAs will be "grandfathered," so they won't be affected should the program ever be discontinued. Major health insurers such as Blue Cross Blue Shield and large HMOs like Cigna Healthcare, Aetna, and Wellpoint Health Network currently offer MSA health insurance packages.

In December 2003, Congress enacted and the President signed into law a Medicare reform bill that created a "Health Savings Account," which offers another tax-deferred method of coping with rising health care costs. Similar to an MSA, the new accounts permit transfers from existing MSAs, but do not impact the existing accounts themselves.

Some 40 to 45 million Americans lack health insurance coverage. And for gift retailers, finding quality medical coverage at a reasonable price presents a major challenge to offering staff an important fringe benefit.