Cafeteria plan for S corp shareholder

[Scarecrow]

The cost of health insurance paid by an S corporation on behalf of a more than 2% shareholder must be added to the shareholder’s W-2 as taxable wages. Rev. Rul. 91-26 identifies these benefits as section 106 accident and health insurance benefits paid for by the corporation.

Here is the question: What about Section 125 cafeteria plans where the employee elects to have a certain amount taken from his pay for medical expenses? The corporation isn’t paying the cost, the employee / shareholder is. Can a more than 2% S corp shareholder participate in a Section 125 cafeteria plan and pay for medical expenses with pre-tax dollars?

I think so. Anyone else have an opinion?

[Bird Legs]

S Corp. cafeteria plan

Ron, the more than 2% stockholder owner cannot participate. Go to your search engine, Google, and type in S Corp. Sect. 125 cafeteria plan.

[Scarecrow]

I just found it in IRS Pub 15 B, page 3. S corporation shareholders cannot participate in Cafeteria Plans. Thanks.

[Bird Legs]

Researching for forms & questions

Ron, I got so tired of trying to manuever through the IRS website, that I just go to Google and type in my question, subject or tax form and click on search. Brings it right up.

[geekgirldany]

I know I am bringing up an old thread. But I just had a customer that established a Section 125 plan several months ago. Did not advise me of this. He has the employee participating but he also listed himself and the other shareholder on this plan. He said it offers different benefits. He was calling to ask me something about if they got health insurance through this plan would the corporation pay for it.

Anyways I did some research on the board here and found out about the 2% shareholder can not participate.Looked on google also. I just called and told him that. He said that the company he got the plan through said they (the shareholder/employee) could participate.

Is there another way around that a more than 2% shareholder/employee can participate? Or did this company just miss it.

[Bird Legs]

Cafeteria Plan-GeekGirl

Is this corporation a C or an S Corp.?

[geekgirldany]

It is a S-Corporation

[OldJack]

I just found it in IRS Pub 15 B, page 3. S corporation shareholders cannot participate in Cafeteria Plans. Thanks.

I don't have time right now to read pub 15b. Does pub 15b really say a 2% or more shaeholder can not "participate" or does it say not to treat the shareholder as an employee for this tax-free benefit? I was thinking they could participate but the fringe benefit had to be added to the W2 gross.

[veritas]

It is my understanding that shareholder employee can participate but the benefits are not exempt from federal tax. They would be exempt from employment taxes.

[geekgirldany]

Old Jack & veritas are you saying that can participate but the benfits would be added back for only federal and state tax? Would it stil be non-taxable for fica and medicare?

There would really be no tax benefit for the shareholder/employee. Unless it is still non-taxable for fica & medicare that is.

[geekgirldany]

Add to above post:

Pub 15B says the following:

Employee. For these plans, treat the following individuals as employees.

* A current common-law employee (see section 2 in Publication 15, (Circular E), for more information).
* A full-time life insurance agent who is a current statutory employee.
* A leased employee who has provided services to you on a substantially full-time basis for at least a year if the services are performed under your primary direction or control.

Exception for S corporation shareholders. Do not treat a 2% shareholder of an S corporation as an employee of the corporation for this purpose. A 2% shareholder for this purpose is someone who directly or indirectly owns (at any time during the year) more than 2% of the corporation's stock or stock with more than 2% of the voting power.

Plans that favor highly compensated employees. If your plan favors highly compensated employees as to eligibility to participate, contributions, or benefits, you must include in their wages the value of taxable benefits they could have selected. A plan you maintain under a collective bargaining agreement does not favor highly compensated employees.

A highly compensated employee for this purpose is any of the following employees.

1. An officer.
2. A shareholder who owns more than 5% of the voting power or value of all classes of the employer's stock.
3. An employee who is highly compensated based on the facts and circumstances.
4. A spouse or dependent of a person described in (1), (2), or (3).

Plans that favor key employees. If your plan favors key employees, you must include in their wages the value of taxable benefits they could have selected. A plan favors key employees if more than 25% of the total of the nontaxable benefits you provide for all employees under the plan go to key employees. However, a plan you maintain under a collective bargaining agreement does not favor key employees.

A key employee during 2006 is generally an employee who is either of the following.

1. An officer having annual pay of more than $140,000.
2. An employee who for 2006 was either of the following.
1.A 5% owner of your business.
2.A 1% owner of your business whose annual pay was more than $150,000.

=============


Everything thing else I have looked at (re non IRS tax articles, investment articles) say something like:

There are some circumstances where individuals cannot participate in a Section 125. Please see the list below:

* Self-employed individuals (but they can sponsor a plan)
* Partners in a partnership (but the partnership can sponsor a plan)
* A more than 2% shareholder in a "Subchapter S" corporation
* An owner of a "Subchapter C" corporation can participate in the plan but is limited to only elect 25% of the total "pre-tax" contributions in the plan.


Plus this:
However, most partners in a partnership, as well as 2% or more shareholders in an S-Corp., are excluded. According to Internal Revenue Ruling 91-26, Section 1372 of the Code, for purposes of applying the provisions of the Code relating to employee fringe benefits, a 2% shareholder who is also an employee of an S Corp. is treated like a partner of a partnership. Employee fringe benefits paid or furnished by an S Corp. to or for the
benefit of its 2% shareholder-employees in consideration for services rendered, are therefore treated, for income tax purposes, like partnership guaranteed payments under section 707(c).

[veritas]

I would stand by what I said earlier. Code Sec 1372 says a 2% owner is to be not treated as an employee. I would not interpet that to mean cannot particpate in the cafeteria plan. Within IRC 125 I would interpet it to mean cannot have a tax free benefit.

[geekgirldany]

Thanks veritas. Most of what it was saying on a 2% shareholder not participating was not IRS but from investment type sites. I will tell him that the shareholder/employee can partcipate but do not get any tax free benefits from doing so. Which is what they want.

I think the company offering the plan just ask them if they were a corporation. I found on a another investment website where it warned brokers to make sure they ask customers what type of corporation they are.

[OldJack]

I wouldn't say the 2%+ shareholder is not getting any benefit from participation. The corporation is paying for the participation and that is a benefit, its just that the fringe benefit cost is taxable to the shareholder. By participating in a group he may be getting something cheaper than otherwise. Its a minor point.

[geekgirldany]

Edit nevermind