October 20, 2014 by Tony Novak
I suspect that there are many small businesses that are still incorrectly reporting transactions related to Health Reimbursement Arrangements (HRA). Rules for HRAs were never well understood in the small business market and the new restrictions imposed by the Affordable Care Act (ACA) for 2014 made these plans practically obsolete for all but the most wealthy small business employers. ACA requires qualified health insurance first, then allows for HRAs only for covered employees.
I wrote about an 800 employee company with a HRA problem last week. Today I received this question from the opposite corner of the small business market, a husband and wife business:
Q: I have a one man LLC, hired my wife as employee, set up a HRA, opened a separate account in bank under company name with second line to identify the employee. I plan to shut down the LLC next year. How shall I handle this bank account for HRA?
My response: Since the HRA doesn’t seem to offer any tax or other advantages for a husband and wife business I wonder why it was set up originally? And since HRA payments are made from general business assets why was a separate account set up? (I wonder if we are using the correct terms here; are you sure you don’t mean HSA or FSA? HRAs do not usually use separate accounts). My personal experience is that when an business set up separate account for an HRA it was because there was some misunderstanding in how HRAs work in the first place so that’s why I emphasize this issue. See http://tonynovak.com/article/how-to-establish-separate-employee-bank-accounts-in-a-small-business-HRA.htm and http://www.tonynovak.com/asktony/questions/bank-account-for-HRA.htm for more on this topic.
I would suggest that your focus should not be on shutting down the HRA since that can be done simply by closing the bank account with no consequences. Rather, you may wish to focus your attention on the potential that transactions related to the HRA were or are currently incorrectly reported. I touch on resolving accounting errors related to HRAs at http://tonynovak.com/article/accounting-problems-with-small-business-HRAs.htm.
Incorrectly designed HRAs lead to incorrect tax reporting. This creates under-reported business income and a potential mess in the event of tax audit. Improper HRAs are an easy audit target for the IRS. Regardless of the size of the business, owners should consider this a serious tax compliance risk.