Incorporate or Form a Partnership?
Either could reduce health insurance costs, other benefits.
By Larry Stalcup
The Trump administration’s expected overhaul of health care insurance can’t come soon enough for many families, whether you live on a ranch outside of Dumas or in a Dallas suburb. From Brownsville to Booker in the northern Panhandle, the Affordable Care Act hasn’t lived up to its name. And for 2017, most call it “unaffordable.”
Policies that cost about $1,000 per month for a family of 4 — with a $6,000 deductible — are common. Other policies might top $20,000 per year, with the same deductible. Bluntly, that dog won’t hunt for most. And like anything in government, the overhaul will likely come one part at a time.
But for ranch and farm families, there are options that can help them reduce that health insurance burden and provide additional financial benefits. It may be worth investigating whether incorporating your ranch or forming a partnership can open the door to group health insurance, as well as potential tax benefits.
“When many insurance carriers pulled out of the market because of astronomical losses, many self-employed people and families looked into forming a group policy to lower their health insurance costs,” says Charla Rose, benefit advisor for Upshaw Insurance in Amarillo and Dallas.
“A rule was established that in order to qualify for group insurance, there had to be at least 2 employees, and 1 employee could not be a member of the immediate family. That opens the door to a family forming a partnership or other business entity.”
“A husband and wife can be considered a group if a limited partnership or general partnership is established,” says Michele Woodham, Cattle Raisers Insurance executive director, Fort Worth. Cattle Raisers Insurance (CRI) is the in-house insurance agency for Texas and Southwestern Cattle Raisers Association (TSCRA).
Jack Howell, attorney with Sprouse, Shrader, Smith PLLC law firm, which has offices in Austin, Victoria, Amarillo and Tulsa, specializes in tax law and other business financial situations. Among his clients are various ranches, farms and feedyards. He says legal entities such as privately held businesses or individual families can face a multitude of complex issues surrounding their structure, operation, transaction and succession.
“Many involve liability issues that can face ranchers and their families,” Howell says. “A family limited partnership (FLP) may be an option to help protect families. A limited partnership should be specially designed for members of a family to own land and other assets. The design features a family or its estate planning legal counsel uses, or does not use, depends on the family’s particular situation.”
Expertise from a family lawyer or other legal counsel is likely needed to determine if forming a partnership or limited liability company (LLC), or incorporating the farm or ranch, is the best route to go for a particular situation. The type of entity needed will vary for many situations.
Benefits of a limited partnership
For many, forming a limited partnership (LP) for tax purposes and other benefits, such as health insurance, is the preferred entity.
In an LP, there is what’s often called a “Welfare Benefits” provision. “Welfare benefits encompass all benefits an employer may provide other than pension benefits,” Howell says.
Health insurance is a key component. “An employer may provide its employees with health insurance benefits in a tax favorable manner,” Howell says. “In effect, 100 percent of the premiums get deducted and employees include no amounts in their taxable income.”
To take it further, if the employer complies with certain non-discrimination rules, Howell says that being an LP means it can not only provide health insurance to employees, but also pay all of its employees’ medical expenses, taking a deduction for amounts it spends with no inclusion in the employees’ taxable income.
In addition, as an LP, disability insurance may be provided by a rancher or any employer on the same basis as medical insurance. “The employer can also provide group term-life insurance, split-dollar coverage and other forms of insurance and death benefits in a tax favorable manner,” Howell explains.
Incorporation?
One design feature that is common to all FLPs and most limited partnerships is the use of a limited liability entity as the general partner. “There are many reasons for this, primarily involving liability and control issues,” Howell says. “The general partner can be a corporation or a LLC.”
He points out that a business may choose to become a C corporation or an S corporation. In the C corp, the tax rate has been 35 percent and the corporation pays taxes on its own income. (Tax rates are projected to change for the better under the Trump administration, so the 35 percent rate may drop.)
“As an owner who works for the C corp business, you become an employee of the business rather than being self-employed,” Howell says. “In many cases, your salary can be used as a deduction by the business.”
He says not all corporations are C corps. The reason is that when you distribute profit in a C corp, there is a second tax. So in the long run, it may be cheaper to not be structured as a C corp.
The S corp may be the alternative. “An S corp is a hybrid, in that the income is passed through to the owners, and they pay taxes as a partnership,” Howell says. “There is difference between the S corp and a partnership. In a partnership, if I want to take out an asset, I can distribute it to its owners. Most of the time it is not taxable. But in an S corp, this is treated as a sale and it triggers a tax.”
Howell stresses that if he is advising a ranch or farm owner —with current tax laws — he would not advise a C or S corp.
“The reason is that land appreciates in value,” he says. “For example, if you put a ranch into a corporation entity, and then want to move it in 15 years or split it in two, that will trigger a tax, most likely as a corporation, because the value of that land has gone up.
“Whereas if you use an entity that is taxed as a partnership, you can move the land and not trigger a tax on appreciation.”
Also, in a general partnership, if the farmer or rancher receives CRP payments or other government ag payments, and he and his wife own land outright individually, they have 2 payment caps. “If there are kids who also own land, then you have 3 or more caps in the partnership.”
Group health insurance, still high under a partnership
As an insurance benefit advisor, Rose sees the shock of inflated health insurance rates being felt among individuals and families, including those who qualify for group plan under a partnership. “It has become so unaffordable that, when you have to choose between having health insurance or putting food on the table, it’s usually not health insurance,” she says.
Rates for 2016 were bad enough. But for 2017, the rates have more than doubled in some cases. For example, First Care, a regional insurance carrier in West Texas, raised its rates by close to 50 percent for individual policies. Blue Cross Blue Shield rates were jacked up by 60 percent.
“Blue Cross Texas lost right at $1 billion in 2014 and 2015,” Rose says. “So on Jan. 1, 2016, Blue Cross (and other carriers) moved people from their PPO plan (Preferred Provider Organization) to their HMO product (Hospital Maintenance Organization). There were still losses. For 2017, UnitedHealth Care and Humana are not offering individual policies in most areas of the U.S.”
It gets down to finding insurance carriers that offer individual plans in your area. That can be difficult. “In West Texas, for example, we’re down to 2 carriers, First Care HMO and Blue Cross. First Care has a good provider network, but if you need a specialist for cancer or medical treatment in Dallas or Houston, those are not in the First Care area. That doesn’t suit some people’s lifestyles.
“Blue Cross is a national HMO. They require you to go through a primary physician to get to a specialist. In West Texas, we don’t have many primary care physicians who accept Blue Cross HMO coverage. Many of the ones who do are not taking new patients.”
Even though few individual plans are available, there are many group plans offered by carriers, Rose says, “which gives them access to better coverage, more provider networks and in most cases, lower costs.”
Rose provides these examples of health care policies for 2017:
For a 63-year-old male, a group plan with a $6,550 deductible and no co-pays has a premium of about $786 per month with a PPO. For an individual policy from Blue Cross through their HMO, the premium for a $6,500 deductible with no co-pays is about $864 per month.
For a 37-year-old female and spouse with two children, the group plan with $6,550 deductible and no co-pays has a premium of $970 per month in the PPO. For 2016, that rate was $788, about 20 percent lower. On the individual side in the HMO, the premium for a $6,500 deductible, no co-pay policy is about $1,096. That’s about 60 percent higher than for 2016.
“That’s a lot of money, a mortgage for some people,” Rose says.
She says that if it’s just the husband and the wife, and 1 other employee, the employee doesn’t have to take the plan. “If they want to contribute something for their employees, they can write that off as a tax deduction,” Rose notes.
“For some people it is just cost prohibitive,” she adds. “For one client, his premium for himself and his wife jumped to $21,000 for the year with a $6,000 deductible. He says, ‘tell me why I shouldn’t just put these dollars into savings and pay the penalty?’
“If you have a crystal ball and know there wouldn’t be a $100,000 medical bill, that’s fine.”
Writers of ACA, better known as Obamacare, counted on young people to buy health insurance to help hold costs down for older people. It hasn’t happened in many cases. Many people choose to pay the government penalty, which for 2016 was 2.5 percent of household income.
“That’s our new conversation with individuals,” Rose says, “what the penalty will cost them from the individual mandate that all U.S. citizens have insurance or pay the penalty.”
What to expect now?
Efforts to repeal Obamacare won’t be overnight because of the reams of rules and regulations, including the fact that many of the insured receive government subsidies.
Subsidies are based on the amount of income a household makes compared to the Federal Poverty Level (FLP), Rose says. A family can make up to 400 percent of FPL and potentially qualify for a subsidy. For a single family member, 400 percent of FPL is $47,520; for 2 in the household, it’s $64,080; 3 in the household, $80,640; 4 in the household, $97,200; 5 in the household, $113,760; and 6 in the household, $130,320.
“If you make between 143 percent and 400 percent of FPL, you quality for subsidy,” Rose says. “The higher you get, the less subsidy you receive.”
She says that after the election of President Trump, insurance company user groups are still pondering what will happen with health insurance. “Many of us feel that (House Speaker) Paul Ryan will have carte blanche,” Rose says. “He has virtually designed a plan that’s on his website.
“We know there a lot of things in place that will have to be changed. It will just take a while.”
Howell says that along with health insurance laws, the new administration will probably see numerous changes in tax laws, regulatory burdens and other issues, which will impact how LPs and other forms of business entities function.
“It is complicated now and may become more complicated,” he concludes. “The more you do, the more complex it gets. I have done some agreements in which the land itself is a partnership and the operation of the farm or ranch is in a separate company. It might be an S corp or an LLC.
“Every farm or ranch is a different situation. What works for one may not be suitable for another. I encourage farm and ranch families to consult with their attorneys, accountants, insurance agents, lenders and others who can provide the expertise they need.”-TC
“How to Incorporate” is from the January 2017 issue of The Cattleman magazine.