Small Employer Health Tax Credit: Factors Contributing to Low Use and Complexity
Highlights
What GAO Found
Fewer small employers claimed the Small Employer Health Insurance Tax Credit in tax year 2010 than were estimated to be eligible. While 170,300 small employers claimed it, estimates of the eligible pool by government agencies and small business advocacy groups ranged from 1.4 million to 4 million. The cost of credits claimed was $468 million. Most claims were limited to partial rather than full percentage credits (35 percent for small businesses) because of the average wage or full-time equivalent (FTE) requirements. 28,100 employers claimed the full credit percentage. In addition, 30 percent of claims had the base premium limited by the state premium average.
One factor limiting the credit’s use is that most very small employers, 83 percent by one estimate, do not offer health insurance. According to employer representatives, tax preparers, and insurance brokers that GAO met with, the credit was not large enough to incentivize employers to begin offering insurance. Complex rules on FTEs and average wages also limited use. In addition, tax preparer groups GAO met with generally said the time needed to calculate the credit deterred claims. Options to address these factors, such as expanded eligibility requirements, have trade-offs, including less precise targeting of employers and higher costs to the Federal government.
The Internal Revenue Service (IRS) incorporated practices used successfully for prior tax provisions and from IRS strategic objectives into its compliance efforts for the credit. However, the instructions provided to its examiners (1) do not address the credit’s eligibility requirements for employers with non-U.S. addresses and (2) have less detail for reviewing the eligibility of tax-exempt entities’ health insurance plans compared to those for reviewing small business plans. These omissions may cause examiners to overlook or inconsistently treat possible noncompliance. Further, IRS does not systematically analyze examination results to understand the types of errors and whether examinations are the best way to correct each type. As a result, IRS is less able to ensure that resources target errors with the credit rather than compliant claimants.
Currently available data on health insurance that could be used to evaluate the effects of the credit do not match the credit’s eligibility requirements, such as information to convert data on number of employees to FTEs. Additional data that would need to be collected depend on the questions policymakers would want answered and the costs of collecting such data.
Why GAO Did This Study
Many small employers do not offer health insurance. The Small Employer Health Insurance Tax Credit was established to help eligible small employers—businesses or tax-exempt entities—provide health insurance for employees. The base of the credit is premiums paid or the average premium for an employer’s state if premiums paid were higher. In 2010, for small businesses, the credit was 35 percent of the base unless the business had more than 10 FTE employees or paid average annual wages over $25,000.
GAO was asked to examine (1) the extent to which the credit is claimed and any factors that limit claims, including how they can be addressed; (2) how fully IRS is ensuring that the credit is correctly claimed; and (3) what data are needed to evaluate the effects of the credit.
GAO compared IRS data on credit claims with estimates of eligible employers, interviewed various credit stakeholders and IRS officials as well as academicians on evaluation, compared IRS credit compliance documents with the rules and practices used for prior tax provisions and IRS strategic objectives, and reviewed literature and data.
Recommendations
GAO recommends that IRS (1) improve instructions to examiners working on cases on the credit and (2) analyze results from examinations of credit claimants and use those results to identify and address any errors through alternative approaches. IRS agreed with GAOs recommendations.
Recommendations for Executive Action
| Agency Affected | Recommendation | Status |
|---|---|---|
| Internal Revenue Service | To help ensure thoroughness and consistency of examinations on the credit, the Commissioner of Internal Revenue should revise the Small Business and Self-Employed Division (SB/SE) and Tax Exempt and Government Entities Division (TEGE) examination instructions to include instructions for examiners on how to confirm eligibility for the credit for small employers with non-U.S. addresses. |
In response to our recommendation, in May 2012, IRS provided instructions for Tax Exempt and Government Entities examiners which provide additional steps for examiners to ensure eligibility for credit claimants with a non-U.S. address. In September 2012, IRS provided similar instructions for examiners in the Small Business/Self-Employed Division. Detailed guidance for TEGE examiners can help examiners to identify noncompliance, and potentially prevent erroneous credit refunds.
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| Internal Revenue Service | To help ensure thoroughness and consistency of examinations on the credit, the Commissioner of Internal Revenue should revise the TEGE examination guidance to include more detailed instructions for examiners on how to confirm that claimants properly calculated eligible health insurance premiums paid for purposes of the credit. The SB/SE examination instructions could serve as a model. |
In response to our recommendation, in May 2012, IRS provided additional instructions for Tax Exempt and Government Entities (TEGE) examiners, which suggest additional health insurance documents to review during an examination on the credit. Detailed guidance for TEGE examiners that instructs them on how to examine health insurance documents could help examiners to consistently identify noncompliance, and potentially prevent erroneous credit refunds.
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| Internal Revenue Service | To help ensure that IRS uses its examination resources efficiently, the Commissioner of Internal Revenue should document and analyze the results of examinations involving the credit to identify how much of those results are related to the credit versus other tax issues being examined, what errors are being made in claiming the credit, and when the examinations of the credit are worth the resource investment. |
In 2013, the Small Business/Self-Employed Division (SB/SE) analyzed a statistical sample of 2010 examination results for the Small Employer Health Insurance Tax Credit. The analysis included a breakdown of examination findings specific to the credit versus other compliance issues identified in examinations. The analysis also identified common compliance issues related to the credit. SB/SE also calculated the no change rate for the examinations, provided data on the tax dollars assessed per return examined and per hour of work. The analysis helped SB/SE to make decisions about compliance resources. In 2014, the Tax Exempt Government Entities (TE/GE) unit completed an analysis of the results of examinations involving the credit, the frequency of various errors made by claimants--as flagged by filters--and the dollars assessed per hour of compliance work. The analysis helped support TE/GE's use of filters to indentify noncompliance related to the credit, and prioritize returns for examination.
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| Internal Revenue Service | To help ensure that IRS uses its examination resources efficiently, the Commissioner of Internal Revenue should, related to the above analysis of examination results on the credit, identify the types of errors with the credit that could be addressed with alternative approaches, such as soft notices. |
In 2013, Internal Revenue Service's (IRS) Small Business/Self-Employed (SB/SE) unit conducted a study that identified common errors with the credit. The study concluded that it is not cost-effective to pursue other alternatives to further decrease noncompliance. In 2014, the Tax Exempt and Government Entities (TE/GE) unit completed an analysis of the results of examinations for involving the credit. The analysis helped support TE/GE's compliance plan for the credit, and therefore they determined that alternative approaches were not necessary. IRS told us that Math Error Authority, fully implemented in January 2014, addresses many of the common errors claiming the Credit. Therefore, there is not an immediate need for alternative approaches, such as soft notices.
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