For small business owners, health insurance is often the second largest expense after payroll. To help mitigate this cost, the federal government offers the Small Business Health Care Tax Credit, a lucrative incentive designed to make coverage more affordable.
As summarized above, this credit can put up to 50% of your premium contributions back in your pocket (or 35% if you are a tax-exempt non-profit).
However, the IRS rules for this credit are strict. It is not a blanket handout; it is a targeted subsidy for the smallest businesses with moderate-wage workforces. This guide explains exactly how to qualify, how the “sliding scale” works, and how to file for it.
1. The 4 Rules of Eligibility
To claim the credit, you must pass four specific tests. If you fail any one of these, you are ineligible.
Rule 1: Fewer than 25 FTEs
You must have fewer than 25 Full-Time Equivalent (FTE) employees.
- Crucial Distinction:Â An FTE is not a headcount. Two half-time employees equal one FTE.
- Exclusions: You exclude yourself (the owner), your spouse, and family members from this count. You also exclude seasonal workers who work fewer than 120 days a year.
Rule 2: Average Wages Below the Cap
For the 2023 tax year, your employees’ average annual wages must be less than $61,400. (This number is indexed annually for inflation).
- The Math:Â Total annual payroll (excluding owner) divided by the number of FTEs.
Rule 3: The 50% Contribution Requirement
You must pay at least 50% of the premium cost for employee-only coverage. You are not required to pay for dependent coverage to get the credit, though you can if you choose.
Rule 4: The SHOP Marketplace
You generally must purchase your policy through the Small Business Health Options Program (SHOP) Marketplace.
- Exception: According to the [IRS], you can claim the credit for coverage purchased outside of SHOP only if the SHOP Marketplace was unavailable in your county (which is rare).
2. Understanding the "Sliding Scale"
Many business owners misunderstand this credit. It is not a flat check for everyone. The tax credit amount works on a sliding scale:
- Maximum Credit (50%): Available only to businesses with fewer than 10 FTEs who are paid an average of $27,000 or less.
- Reduced Credit: As your staff grows closer to 25 FTEs, or as average wages rise toward $61,400, the credit amount phases out.
If you have 24 employees earning $60,000 each, your credit will be very small. If you have 5 employees earning $25,000 each, your credit will be maximized.
3. How to Calculate "Full-Time Equivalents" (FTEs)
Since eligibility hinges on the FTE count, you need to calculate this correctly. The IRS instructions for Form 8941 provide the standard formula:
- Count Hours:Â Tally the total hours of service performed by all non-owner employees during the year. (Cap hours at 2,080 per employee).
- Divide: Divide the total hours by 2,080.
- Round:Â Round the result down to the nearest whole number.
Example:
You have 5 full-time staff (40 hours/week) and 10 part-time staff (20 hours/week).
- 5 Full-time = 10,400 hours.
- 10 Part-time = 10,400 hours.
- Total = 20,800 hours / 2,080 =Â 10 FTEs.
4. The Two-Year Limit
This is perhaps the most important strategic detail:Â You can only claim the Small Business Health Care Tax Credit for two consecutive tax years.
Because of this limit, some businesses choose to wait to join the SHOP Marketplace until they are financially ready to maximize the credit, rather than “wasting” a year of eligibility when they have very few employees or low premiums.
How to Claim the Credit (Form 8941)
To get the money, you must attach IRS Form 8941 (Credit for Small Employer Health Insurance Premiums) to your business tax return.
- For Small Businesses:Â The credit is part of the general business credit. If you have no tax liability this year, you can carry the credit back one year or forward 20 years.
- For Non-Profits: You claim the credit on Form 990-T. For tax-exempt organizations, the credit is actually refundable (up to the amount of payroll taxes paid), meaning the IRS can send you a check even if you owe no income tax.
Frequently Asked Questions
Does the business owner count toward the FTE limit?
No. IRS regulations specifically exclude owners, partners, and their family members from the FTE calculation and the average wage calculation.
Can I get the credit if I don't use the SHOP Marketplace?
Generally, no. Since 2014, the requirement is strictly enforced. You must buy a SHOP plan. If you buy a private plan directly from a broker that isn’t a certified SHOP plan, you forfeit the credit.
Is the credit retroactive?
You can file an amended return to claim the credit for past years only if you met the requirements in those years (including the SHOP requirement). Since the SHOP requirement has been in place for years, it is difficult to claim retroactively unless you were already enrolled in a SHOP plan but forgot to file Form 8941.
Can I claim the credit for dental and vision premiums?
Yes. If you pay at least 50% of the premiums for stand-alone dental or vision plans purchased through the SHOP Marketplace, those costs are eligible for the Small Business Health Care Tax Credit.
Does the credit reduce my tax deduction?
Yes. You cannot “double dip.” If you pay $10,000 in premiums and receive a $5,000 tax credit, you can only deduct the remaining $5,000 as a business expense.
Is the Paperwork Worth It?
For the smallest businesses, the answer is a resounding yes. If you have 5 to 10 employees earning moderate wages, the Small Business Health Care Tax Credit can effectively cut your health insurance bill in half.
However, as you grow larger, the benefit diminishes. The key is to calculate your FTEs accurately and ensure you are enrolled in a SHOP Marketplace plan.
Ready to calculate your savings?
- Check Eligibility: Use the official HealthCare.gov Tax Credit Estimator to see if you qualify.
- Get a Quote: Read our guide on Small Business Health Insurance Quotes to compare SHOP plans against private options.
