Included in the federal health care overhaul passed earlier this year, the small business health care tax credit can offset up to 35% of the insurance premiums that a small company pays to cover its employees this year, according to the federal Small Business Administration. The rate will increase to 50% in 2014. The U.S. Department of the Treasury recently released detailed guidance as to how a small business could take advantage of the credits.

Small businesses face unique challenges to providing health insurance for their employees, such as higher costs and fewer choices than those available to larger companies. Nationally, an estimated four million small companies might qualify for the tax credit, which is designed to help subsidize insurance coverage by about $40 billion over the next 10 years, according to the federal government. The tax credit can also be used to cover add-on dental, vision, and other limited insurance coverage. In Ohio, for example, an estimated 118,000 businesses that cover at least half of their employees’ health care costs would be eligible for the tax credit, according to the Ohio Department of Insurance.

According to the federal Small Business Administration, the health care bill would also benefit small companies by blocking dramatic premium increases when one employee gets sick.

The U.S. Department of the Treasury issued guidance designed to simplify eligibility information and allow companies to choose the most favorable method of determining worker hours in order to maximize the tax credit, which is available to companies with fewer than 25 employees.

Below are key elements of the program:

• Detailed Guidance. To help small businesses make employee benefit decisions with full knowledge and to provide a clear incentive to offer health insurance coverage, the new IRS Notice 2010-44 lays out detailed guidance on how a business can determine whether it is eligible and how large a credit it will receive.
• No Reduction Due to State Credits. Responding to a number of taxpayer questions about the interaction of the credit with state-level health care tax credits and subsidies, the guidance announces that the new tax credit will not be reduced by a state health care tax credit or subsidy (except in limited circumstances to prevent abuse of the credit). In particular, an employer that receives such a state tax credit or subsidy will also receive the full federal credit based on its entire contribution so long as the federal credit does not exceed the employer’s net contribution. According to lists compiled by the National Conference of State Legislatures, about 20 states offer these benefits.
• Dental and Vision Coverage Qualify. The guidance clarifies that small businesses can receive the credit not only for traditional health insurance coverage but also for add-on dental, vision, and other limited-scope coverage. The employer must meet the requirements for limited-scope coverage that are similar to those that apply for single coverage: the employer must offer to pay at least 50% of the premium.
• Employers Can Choose Most Favorable Method of Determining Hours Worked. Because the tax credit’s matching rate is highest for employers with 10 or fewer full-time equivalent employees (FTEs), the number of hours worked is an important factor in calculating the credit. The new guidance allows employers to choose among 3 different methods of determining hours to minimize their bookkeeping duties while receiving the maximum tax credit for which they are eligible. Employers can look at actual hours of service, or can use simple rules of convenience to estimate hours based on total days or weeks of service.
• Transition Relief for 2010 Formalized. Because the tax credit is effective for 2010 but was not enacted until March 23, 2010, some small businesses that are providing health insurance in 2010 may not meet all the requirements for a qualifying health insurance offer. To ensure that these businesses benefit from the credit, the Administration is providing special transition relief for tax year 2010. The transition rules simplify the requirements for what constitutes a qualifying health insurance offer while maintaining the core requirement that an employer make a significant contribution to the employee’s coverage. The transition relief was first mentioned in FAQs released on the IRS website on April 1, 2010, and has now been formalized in the new notice.