In many cases, employees are able to exclude the value of fringe benefits provided by employers, and the employer is able to deduct the cost of providing these benefits. However, when the employer is an S Corporation some special rules apply.
Health and accident insurance premiums paid on behalf of a greater than 2% S Corporation shareholder employee are deductible by the S corporation and reportable as wages on the shareholder-employee’s Form W-2, subject to income tax withholding. (A 2% shareholder is someone who owns more than 2% of the outstanding stock of the corporation or 2% or more of the voting power of all stock of the corporation.)
However, these additional wages are not subject to Social Security or Medicare (FICA), or Unemployment (FUTA) taxes if the payments of the premiums are made to or on behalf of an employee under a plan or system that makes provision for all or a class of employees (or employees and their dependents.) Therefore, the additional compensation is included in the shareholder-employee’s Box 1 (Wages) of Form W-2, Wage and Tax Statement, but is not included in Boxes 3 and 5 of Form W-2.
A 2% shareholder-employee is eligible for an above-the-line deduction in arriving at Adjusted Gross Income (AGI) for amounts paid during the year for medical care premiums if the medical care coverage was established by the S Corporation and the shareholder met the other self-employed medical insurance deduction requirements. If, however, the shareholder could be covered under a subsidized health care plan of the shareholder or shareholder’s spouse, then the shareholder is not entitled to the above-the-line deduction.
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