New limitations on tax deductions for compensation added by the Affordable Care Act ("ACA") for employers who are "covered health insurance providers" may have a major impact on tax deductions for employers who are covered health insurance providers and others in their controlled group. Covered health insurance providers should take notice of the new limitations on tax deductions for compensation which are already effective for compensation deferred in 2010.
BACKGROUND - SECTION 162(m) LIMIT ON TAX DEDUCTIONS
Before the ACA, Section 162(m) of the Internal Revenue Code ("Code") applied only to publicly traded companies, limiting their tax deductions for compensation paid to the chief executive officer and up to three additional most highly paid senior executives to $1 million each per taxable year of the company. This rule included exceptions so that certain incentive compensation and equity awards did not count toward the $1 million cap on tax deductible compensation. As a result, many publicly-traded companies rely heavily on incentive compensation and stock options to provide executive pay packages.
Troubled Asset Relief Program ("TARP") recipients became subject to rules under Section 162(m)(5) of the Code, which limits tax deductions for compensation payable to a specified group of executives to $500,000 each per taxable year of the Company, with no exceptions for incentive compensation or equity awards or commissions. Congress extended and broadened this trend with Section 162(m)(6) of the Code, which was added by the ACA as a revenue raiser.
New Section 162(m)(6) of the Code applies to any entity - whether publicly traded or privately held and, it appears, whether or not it is a corporation - that is a "covered health insurance provider." The new rule limits the deduction to $500,000 per employee, director or other service provider per year, whether among the most highly compensated or not. There is no exception for incentive compensation, equity awards of any type, commissions or other performance-based pay.
WHAT IS A COVERED HEALTH INSURANCE PROVIDER?
The term "covered health insurance provider" is defined differently depending on whether the taxable year is before 2013 or after.
2010 through 2012. For taxable years after 2009 and before 2013, a covered health insurance provider is a "health insurance issuer" that receives premiums from providing "health insurance coverage". A health insurance issuer generally means an insurance company, insurance service, or insurance organization (including a health maintenance organization as...