Short answer: No. When an employer funds an Individual Coverage Health Reimbursement Arrangement (ICHRA) and the employee maintains qualifying individual health insurance coverage, the reimbursements are tax-free to the employee. They are excluded from gross income under Internal Revenue Code Section 106 and are not subject to federal income tax, Social Security, Medicare, or federal unemployment taxes.
That tax-free treatment is one of the main reasons ICHRAs have grown roughly seven-fold since federal rules finalized in 2020. But there are specific conditions that must be met for the exclusion to apply — and at least one scenario where reimbursements do become taxable. Here is what every employee and employer needs to know.
How the IRS Treats ICHRA Reimbursements
The ICHRA was established through IRS Notice 2019-45 and the final rule published in June 2019 (84 FR 38872). Under these rules, an ICHRA is an employer-funded health reimbursement arrangement that reimburses employees for individual health insurance premiums and qualified medical expenses.
The tax treatment works as follows:
- Excluded from gross income. Under IRC Section 106, amounts received through an employer-provided accident or health plan — including ICHRA reimbursements — are excluded from the employee gross income, provided the employee is enrolled in qualifying coverage.
- No payroll taxes. ICHRA reimbursements are not subject to Social Security (FICA), Medicare (FICA Additional Medicare Tax), or Federal Unemployment Tax Act (FUTA) taxes.
- Employer deduction. Employer contributions to an ICHRA are deductible as an ordinary business expense under IRC Section 162.
In practical terms: an employee who receives $500 per month through an ICHRA to cover their individual health insurance premium does not report that $500 as taxable income. It never appears on their W-2 in Boxes 1, 3, or 5 (wages, Social Security wages, or Medicare wages).
The One Condition That Makes ICHRA Reimbursements Taxable
There is a critical catch. For ICHRA reimbursements to remain tax-free, the employee must maintain minimum essential coverage (MEC) — typically an individual health insurance plan purchased on the ACA Marketplace, directly from a private insurer, or Medicare Parts A and B (or Part C).
If an employee enrolls in an ICHRA but does not maintain qualifying individual health coverage, the employer cannot legally distribute reimbursements. However, if an employer mistakenly pays reimbursements to an employee who lacks qualifying coverage, those amounts are included in the employee gross income and are subject to federal income tax, Social Security, and Medicare taxes.
This is why ICHRA administration matters. Employers need reasonable procedures in place to verify that employees and their dependents are enrolled in qualifying coverage before distributing funds. CMS provides a model attestation form for this purpose.
Do ICHRA Reimbursements Affect Marketplace Premium Tax Credits?
This is a common question, and the answer depends on whether the employer ICHRA offer is considered affordable under ACA rules.
If the ICHRA is affordable: The employee and their household members are not eligible for a premium tax credit (PTC) on Marketplace coverage, even if they decline the ICHRA. For 2026 plan years, an ICHRA is considered affordable if the employee required monthly contribution for the self-only lowest-cost Silver plan (after the ICHRA reimbursement) does not exceed 9.96% of 1/12 of the employee household income.
If the ICHRA is not affordable: The employee can choose between the ICHRA or the premium tax credit on Marketplace coverage — but not both. To receive the PTC, the employee must decline the ICHRA offer.
This affordability determination is made by the Marketplace when employees apply for coverage, not by the employer. Employers can use the healthcare.gov HRA Affordability Tool to estimate how their contribution affects employee eligibility.
What Employees Can Be Reimbursed For
ICHRA funds can cover:
- Individual health insurance premiums — plans purchased on the Marketplace or directly from an insurer
- Medicare premiums — Parts A and B, or Part C (Medicare Advantage)
- Qualified out-of-pocket medical expenses — as defined under IRC Section 213(d), including copays, prescriptions, and other eligible costs
What does not count as qualifying individual coverage for ICHRA purposes:
- Short-term health insurance plans
- Dental-only or vision-only plans
- Health care sharing ministries
Employees who want to use pre-tax dollars for the portion of premiums not covered by the ICHRA can do so through a Section 125 cafeteria plan — but only if they purchase insurance outside the Marketplace (directly from an insurer), since Marketplace plans are paid with after-tax dollars.
How Employers Set ICHRA Contribution Amounts
One of the ICHRA advantages is flexibility. There are no minimum or maximum annual contribution limits — unlike HSAs or FSAs. Employers decide how much to contribute based on their budget and the benefits they want to provide.
Employers can vary the contribution amount by:
- Age — up to a 3:1 ratio between the youngest and oldest employee in a class
- Family size — different amounts for single employees, employees with dependents, and family coverage
The contribution must be uniform within each defined employee class. Employers choose from IRS-defined classes such as full-time, part-time, seasonal, salaried, hourly, employees in different locations, and others. You cannot create custom classes outside the IRS list.
ICHRA vs. Taxable Stipends: Why It Matters
Some employers consider offering a taxable cash stipend instead of an ICHRA to avoid administrative complexity. While simpler, a taxable stipend has significant downsides:
- The employee pays income tax and payroll taxes on the stipend
- The employer pays payroll taxes on the stipend
- A $500 stipend may only be worth $325-$375 after taxes, depending on the employee bracket
An ICHRA, by contrast, delivers the full $500 tax-free to the employee, and the employer deducts the full $500 as a business expense. The tax advantage is substantial for both parties.
ICHRA Eligibility: Who Can Participate?
ICHRAs are available to employers of any size — there is no minimum or maximum employee count. However, there are important eligibility rules:
- Employees only. Self-employed individuals (including sole proprietors and partners) cannot participate in an ICHRA. This includes the spouse of a self-employed owner.
- W-2 employees. Only common-law employees are eligible, not independent contractors.
- Class-based offering. Employers can offer an ICHRA to some employee classes and a traditional group health plan to others, but they cannot offer the same class a choice between the two.
If an employer offers both a group plan and an ICHRA, class size minimums apply depending on employer size (e.g., 10 employees for employers with fewer than 100 employees, 10% for 100-200 employees, and 20 employees for more than 200).
Key Takeaways
- ICHRA reimbursements are tax-free to employees when they maintain qualifying individual health coverage
- Employers can deduct ICHRA contributions as a business expense, with no annual contribution limits
- Reimbursements are not subject to Social Security, Medicare, or FUTA taxes
- Employees who lack qualifying coverage risk having reimbursements included in taxable income
- The ICHRA affordability determines whether employees are eligible for Marketplace premium tax credits
The ICHRA is one of the most tax-efficient ways for employers to provide health benefits in 2026. For employees, it means more take-home pay and lower out-of-pocket health costs — without the tax burden that comes with taxable stipends or cash allowances.
Ready to explore an ICHRA for your business or understand how it fits your situation? Trek Insurance Solutions helps employers design and implement ICHRAs that work for their teams. Call us at 888-960-0442 or visit trekis.net/services/employee-benefits to get started.
Trek Insurance Solutions is licensed in multiple states. Contact us to confirm availability in your area. This article is for informational purposes only and does not constitute tax or legal advice. Consult a qualified tax professional or benefits advisor for guidance specific to your situation.
888-960-0442 · trekis.net