IRS Addresses Tax Treatment of Popular Wellness Program Benefits
Author: Rena Pirsos, XpertHR Legal Editor
April 26, 2017
Wellness programs have gained popularity with employers interested in improving the health of their employees in order to reduce the number of sick days and overall health care costs. Wellness programs often include activities such as tobacco-cessation programs, health screenings, exercise groups and nutritional courses designed to motivate employees to adopt and maintain healthful behaviors. Anytime an employer contemplates offering a new type of benefit, however, it must be mindful of the fact that it may result in taxable income to the employees who receive it.
Two IRS Chief Counsel Advice Memoranda provide good examples of the tax ramifications of wellness program benefits and an employer's reimbursement of premiums provided on a pre-tax basis through a cafeteria plan under Internal Revenue Code (IRC) § 125.
In the first Memorandum, the employer asked the IRS whether it could exclude the following payments from employees' taxable income (under IRC §§ 105 or 106):
- Cash rewards paid for participating in a wellness program; and
- Reimbursements of premiums for participating in a wellness program that were originally made by salary reduction through an IRC § 125 cafeteria plan.
The IRS concluded that the cash rewards must be included in the employees' gross taxable income in the following three different scenarios.
Scenario 1. The employer provides all employees, regardless of enrollment in other comprehensive health coverage, with certain benefits under a wellness program at no cost. The benefits include health screenings and other benefits that generally qualifies the program as an accident and health plan under IRC § 106. In addition, participating employees may earn cash rewards or benefits that do not qualify as IRC § 213(d) medical expenses, such as gym membership fees.
The IRS concluded that the employer must withhold income and employment (e.g., social security and Medicare) taxes on the value of the benefits provided to the employees. Similarly, other benefits not otherwise excludable from the employees' income, such as gym membership fees, are taxable to the employees at fair market value and subject to withholding.
Scenario 2. The same facts as in Scenario 1, except that participating employees pay a required pre-tax contribution by salary reduction through an IRC § 125 cafeteria plan. The IRS reached the same conclusion, explaining that the use of the cafeteria plan makes no difference in regard to the tax treatment of cash rewards and other benefits not otherwise excludable from income.
Scenario 3. The same facts as in Scenario 2, except that one of the benefits available under the wellness program includes a reimbursement of all or a portion of the required employee contribution made through salary reduction. The IRS concluded that the employer must include the reimbursements in the employees' gross income and withhold income and employment taxes.
In a similar Memorandum, the IRS concluded (in five different scenarios) that fixed indemnity cash payments received by an employee under by a wellness plan without regard to the amount of medical expenses incurred by the employee, and in which the employee pays premiums on a pre-tax basis under an IRC § 125 cafeteria plan, are similarly included in the employee's gross income and subject to income and employment tax withholding.
Chief Counsel Advice Memoranda are the IRS's response to a particular taxpayer's (e.g., an employer's) request for advice and may not be used or cited as precedent. However, for employers that provide, or are contemplating providing, similar benefits to employees, they offer practical guidance about how the IRS would apply the IRC in comparable situations.