IRS Notice 2010-38 provides important new guidance regarding the extension of health insurance coverage to adult dependents under provisions of the Patient Protection and Affordable Care Act (PPACA). Under PPACA, as interpreted by Notice 2010-38, dependent health coverage under an employer-sponsored group health plan can now be provided tax-free to children under the age of 27. This favorable tax treatment takes effect immediately.
Extended Coverage to Age 26 Under PPACA. PPACA requires health insurance plans that provide dependent coverage to children to make that coverage available until the child turns age 26. This extended coverage must be made available by employer health plans (whether fully insured or self-funded) in plan years beginning on or after September 23, 2010.
Favorable Tax Treatment for Children Up to Age 27. Under prior law, health insurance coverage could be provided on a "tax-free" basis only to children qualified as "dependents" for income tax purposes. Generally, this required (among other things) that the parent-employee was responsible for the support of the child, that the child resided in the home of the parent, and that the parent claimed the child as a dependent on his or her tax return. If a child did not qualify as a tax dependent, the value of the dependent coverage was imputed as income to the employee.
Under PPACA, as interpreted by Notice 2010-38, dependent coverage under an employer health plan will be treated as a tax-free benefit even if the covered child does not qualify as a tax dependent of the employee. Under PPACA, a child who is eligible for dependent coverage under an employer-sponsored health plan and who has not reached age 27 by the end of the tax year can be covered on a tax-free basis. Specifically, the value of the dependent coverage will be excluded from the employee's wages for FICA, FUTA and income tax withholding purposes. This treatment applies whether the child is already covered under the plan or is added to the plan. A child includes a son, daughter, stepson, stepdaughter or eligible foster child.
The tax favored treatment applies to employer-provided reimbursements and coverage under health and accident plans, including dental plans, vision plans and health flexible spending accounts. Self-employed individuals may also take advantage of the new rules.
Notice 2010-38 also provides that employees may make pre-tax contributions for the coverage under an employer's cafeteria plan, even if the cafeteria plan has not yet been amended to cover these individuals. Plan sponsors have until the end of 2010 to amend their cafeteria plans to incorporate this change.
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