Health spending accounts in Canada provide 100% tax-free health benefits to employees providing a valuable addition to a small business compensation plan. The health spending account must qualify under Canadian revenue agency rules to provide tax relief.
GENERAL CRA HEALTH SPENDING ACCOUNT RULES
Tax relief is one of the most overlooked factors when evaluating the value of an employee health benefit plan for small business.
Health spending account is the name commonly in use in Canada, but is described in the Income Tax Act (ITA) as a Private Health Services Plan (PHSP).
TAX DEDUCTIBLE HEALTH SPENDING ACCOUNT RULES
Where a small business contributes premiums to PHSP, the small business is entitled to a deduction for the amount paid as a business expense necessary to earn income, as long as the amount is “reasonable.”
Where a health spending account qualifies as a PHSP, the benefits received by the employee are not included in the employee's income for tax purposes. In other words, Health expenses claimed by the employee using a health spending account are free of income and payroll taxes. $1 of value in “healthcare compensation” (in a health spending account), is equivalent to $2 of gross wage compensation.
There are three principal requirements for health spending account (PHSP) under the income tax act (ITA) that:
PLAN OF INSURANCE
1. The health spending account (PHSP) represents CONTRACT OF INSURANCE on insurance plan, In this case, it represents self-insurance by the small-business, promising to pay into the employee’s account an agreed-upon amount up to a maximum value (e.g $2500) for one year.
CANADA REVENUE AGENCY ELIGIBLE MEDICAL EXPENSES
2. The Canada Revenue agency health spending account covers only EXPENSES ELIGIBLE in the Income Tax Act for the Medical Expense Tax Credit (METC) and it covers hospital or medical care or expenses; and specifically excludes provincial health insurance plans under the Canada Health Act, such as OHIP.
HSAs are most often structured to permit employees to receive some level of reimbursement for medical expenses that still qualify for the medical expense credit but on a less restrictive basis than under a major medical plan. For example, a major medical plan may cover up to $500 worth of physiotherapy in any one year whereas, under an HSA which provides an employee with $2,000 worth of credits in a year, the employee can apply the entire $2,000 to physiotherapy services (from a qualified physiotherapist in the jurisdiction in which the services are rendered).
CANADA REVENUE AGENCY ELIGIBLE RECIPIENTS RULES
3. The health spending account cover only ELIGIBLE RECIPIENTS as outlined in the Income Tax Act, defined as the employee, employee spouse or common-law partner, and other children and dependents.
A health spending account covers EMPLOYEES, not just the owners of a small business. If a health spending account it just covers the owners, CRA could be rule that as a SHAREHOLDER BENEFIT and fully taxable.
C. R.A. HEALTH SPENDING ACCOUNT RULES AT ADMINISTRATIVE LEVEL
Small business should carefully choose a Third-party Administrator (TPA) when implementing health spending account (PHSP), an administrator that ensurers that more detailed CRA requirements are fulfilled by the Plan of insurance.
A few main issues are:
- The health spending account plan must specify a maximum amount eligible for health care expenses that can be claimed by the employee and the plan year.
- No expenses can be claimed which were incurred prior to setting up the health spending account plan.
- No cash consideration can be given for unclaimed Health spending account credits.
- The health spending account plan cannot be changed or canceled until the Plan year is finished.
- A health spending account cannot be used to pay provincial health premiums which are regarded as taxes. Provincial health premiums because they're considered taxes.
Small business should seek advice from accountants or financial Planners” for more detailed specifics.