According to the IRS, a 2-percent shareholder in an S corporation may be eligible for a deduction against Adjusted Gross income (AGI) for the cost of accident and health insurance premiums paid by the corporation. The deduction is equal to 100 percent of the amount paid for medical insurance for the shareholder, his or her spouse, and dependents and is reported as an adjustment to income on the shareholder’s Form 1040.

The deduction has two limitations:

  • The deduction is not available for the calendar months in which the 2-percent shareholder or spouse is eligible to participate in another employer-subsidized health insurance plan; and,
  • The deduction cannot exceed the taxpayer’s earned income derived from the trade or business that provides the health insurance plan. S corporation shareholders treat their social security wages from the S corporation as earning income for purposes of this limitation.

A 2-percent shareholder that meets the requirements is eligible for the deduction if the plan providing the medical care coverage is established by the S corporation, which means that:

  • The S corporation pays the premiums for the accident and health insurance policy covering the 2-percent shareholder (and his or her spouse and dependents, if applicable) in the current year; or,
  • The 2-percent shareholder pays the premiums and furnishes proof or payment to the S corporation, after which the S corporation reimburses the 2-percent shareholder for the premium payments in the current year.

In addition, the S corporation must report the accident and health insurance premiums that are paid or reimbursed as wages on the 2-percent shareholder’s Form W-2 in that same year, and the 2-percent shareholder must report the premium payments or reimbursements as gross income on his or her Form 1040.

Health insurance premiums are subject to exclusion from social security wages if the requirements are satisfied. If you have any questions, please contact your Linkenheimer LLP CPA.

Written by Mike Musson, CPA, Partner