HSA In A Corporation: Tax Savings For Canadian Small Businesses

As a small business owner in Canada, you’re always on the lookout for ways to support your employees while managing costs. Enter Health Spending Accounts (HSAs) – a powerful tool that can help you do both. In this guide, we’ll break down everything you need to know about setting up HSA in a corporation, from their tax benefits to setup and compliance. Let’s dive in!

What is a Health Spending Account?

Think of a Health Spending Account as a special pot of money set aside for your employees’ health needs. Unlike traditional health insurance, HSAs give your team more flexibility in how they use their health benefits.

Here’s the key: HSAs are considered a type of Private Health Services Plan (PHSP) in Canada. This classification is crucial because it’s what makes HSAs tax-effective for both you and your employees.

How Health Spending Accounts Work in Canada

Who can use HSAs?

Any incorporated business in Canada can set up an HSA. Whether you’re a tech startup in Vancouver or a family-run bakery in Halifax, HSAs are an option worth considering. For incorporated businesses, an HSA can be set up even for a single shareholder employee.

However, for unincorporated businesses (sole proprietorships or partnerships), the plan must cover at least one arm’s length employee (not the owner, business partner, or their family members) to qualify as a Private Health Services Plan.

What can employees use HSAs for?

HSAs cover a wide range of health-related expenses, including:

• Dental care
• Vision care
• Prescription medications
• Physiotherapy
• Mental health services

And many more! The Canada Revenue Agency (CRA) provides a comprehensive list of eligible medical expenses.

How much can employees spend?

As the business owner, you decide the annual limit for each employee. Some businesses set a flat rate for all employees, while others vary the amount based on factors like job level or years of service.

Tax Advantages for Small Businesses

Here’s where HSAs really shine for your business:

• Tax-deductible expense: Every dollar you contribute to your employees’ HSAs is a tax-deductible business expense. This means you’re supporting your team’s health while reducing your taxable income.
• No payroll taxes: Unlike salary increases, HSA contributions don’t incur payroll taxes. This saves you money on CPP and EI contributions.
• Predictable costs: With HSAs, you know exactly how much you’re spending on health benefits each year. No surprises!

Let’s look at a detailed example comparing the tax implications of paying for medical expenses personally versus through an HSA:

Scenario Comparison: Personal Medical Expenses vs. HSA In A Corporation

Consider an owner-shareholder of a small corporation in Ontario with a salary of $100,000 and medical expenses of $3,000. We compared two scenarios:

• Paying for medical expenses personally and claiming the Medical Expense Tax Credit
• Paying for medical expenses through an HSA in a corporation.

Our analysis shows that by using an HSA, the owner-shareholder could save significantly.

Assumptions:

• Owner-shareholder salary: $100,000 + $4,390 for medical expenses
• Medical expenses: $3,000
• Corporate tax rate (Ontario, 2023): 12.2%
• Personal marginal tax rate (Ontario, 2023): 31.66%
• No additional CPP/EI contributions (already maxed out at $100,000)
• HSA admin fee: 10% of claim amount
• RST (Ontario): 8% on admin fee and claim amount

Scenario 1: Personal Medical Expenses

• Additional salary: $4,390
• Total cost to corporation: $4,390 (no additional CPP/EI)
• Corporate tax savings: $4,390 * 12.2% = $535.58
• Personal income tax on additional salary: $4,390 * 31.66% = $1,389.87
• Medical Expense Tax Credit (METC):

• Eligible amount: $3,000 – (3% of $104,390 or $2,421, whichever is less) = $579
• Federal credit: $579 * 15% = $86.85
• Ontario credit: $579 * 5.05% = $29.24
• Total METC: $116.09

Net cost: $4390 – $535.58 – $116.09 = $3,738.33

Scenario 2: HSA through Corporation

• HSA claim amount: $3,000
• Admin fee (10%): $300
• Subtotal: $3,300
• RST (8% on subtotal): $264
• Total HSA cost: $3,564
• Corporate tax savings: $3,564 * 12.2% = $434.81

Net cost: $3,564 – $434.81 = $3,129.19

Comparison

• Scenario 1 net cost (Personal): $3,738.33
• Scenario 2 net cost (HSA): $3,129.19
• Difference: $609.14

Result
After accounting for all factors, using an HSA in a corporation saved $609.14 compared to paying for medical expenses through additional salary in this example scenario.

Note that this saving is using these example amounts. Actual savings (if applicable) will depend on your individual circumstances.

Here is a visual representation of this base example scenario:

Below are summaries of a few other sample scenarios as well:

Factor	Scenario 1	Scenario 2	Scenario 3	Scenario 4
Base Salary	$100,000	$50,000	$150,000	$150,000
Medical Expenses	$3,000	$3,000	$3,000	$5,000
Net Cost under Personally Paid Medical Expenses Option	$3,738	$3,775	$4,538	$7,709
Net Cost under HSA in a Corporation Option	$3,129	$3,129	$3,129	$5,215
Absolute Savings with HSA	$609	$645	$1,408	$2,494
Percentage Savings with HSA	$16.29%	17.10%	31.04%	32.35%

Key takeaways from these comparisons:

• The HSA in a corporation provides immediate tax benefits, while the personal medical expense tax credit is only realized when filing taxes.
• With an HSA in a corporation, the full amount is available for medical expenses, whereas personal payment requires earning more pre-tax income to cover the same expenses.
• HSAs often cover a wider range of expenses than those eligible for the medical expense tax credit.
• The savings with the HSA option can be significant and demonstrate the potential tax advantages of using an HSA for medical expenses. However, note that the above are only example scenarios. Actual savings, if any, would need to be calculated for your individual circumstances.

Tax Implications for Employees

Your employees will love HSAs too! Here’s why:

• Tax-free benefit: Unlike additional salary, HSA reimbursements are tax-free for employees.
• More take-home value: Because HSA funds come from pre-tax corporate dollars, employees effectively get more value compared to paying for medical expenses out of their after-tax personal income.

For example, if an employee in the 30% tax bracket needs $1,000 for dental work:

• With an HSA: They use the full $1,000 from their HSA.
• Without an HSA: They’d need to earn about $1,429 pre-tax to have $1,000 after tax for the dental work.

Important CRA Guidelines and Compliance

Now, let’s talk about some crucial points to keep your HSA on the right side of the CRA:

• HSAs are not a tax scheme: The CRA has issued a specific warning about misuse of HSAs. They’re meant to be a health benefit, not a way to pay for personal expenses through your business.
• PHSP rules apply: HSAs must follow the rules for Private Health Services Plans. The CRA provides detailed guidance on this.
• Reasonable coverage: The CRA expects HSA coverage to be “reasonable.” This typically means similar to what you’d see in a traditional group insurance plan. This court case lays out some good guidelines as to how the Tax Court of Canada assesses reasonability.
• Eligibility considerations:

• For incorporated businesses: An HSA can be set up even for a single shareholder employee.
• For unincorporated businesses: The plan must cover at least one arm’s length employee to be considered a PHSP.

Setting Up an HSA In A Corporation

Ready to set up an HSA? Here’s a step-by-step guide:

• Choose a provider: Look for reputable HSA administrators in Canada. They’ll handle the paperwork and ensure you stay compliant.
• Decide on coverage amounts: Determine how much you want to allocate per employee.
• Set up your plan: Work with your chosen provider to establish the plan rules and administrative details.
• Communicate with employees: Clearly explain the benefit to your team, including what’s covered and how to submit claims.
• Keep good records: Maintain detailed records of all HSA-related transactions and communications.

Maximizing HSA Benefits: Tips for Small Business Owners

To get the most out of your HSA:

• Review annually: Reassess your HSA limits each year based on usage and budget.
• Educate your team: The more your employees understand about their HSA, the more they’ll appreciate and use it effectively.
• Consider combining with other benefits: HSAs can work well alongside traditional health insurance, providing extra coverage for items not included in your main plan.

Wrapping Up

Health Spending Accounts offer a win-win solution for Canadian small businesses and their employees.

They provide flexible health coverage while offering significant tax advantages. However, it’s crucial to set them up correctly and use them as intended – as a health benefit, not a tax loophole.

Note that numerical scenarios above are only to demonstrate simple example scenarios, not an indication of guaranteed tax savings.

Remember, while this guide provides a solid overview, tax laws can be complex. It’s always a good idea to consult with our tax team for advice tailored to your specific situation. Reach out to us over here!