This is covered in part in publication 15, which you should be aware of for many reasons. The key principles are these;
1. An S corporation must pay fair market wages to the owners on a W-2 before it can distribute any additional profits as long-term capital gains or non-wage income that is taxed at lower rates. If the S corporation did not issue each of the owners a W-2, you are starting off with a serious problem and you should take the entire situation to an experienced accountant. The S corporation‘s tax return (form 1120) was due March 15, 2021, the deadline was not extended due to Covid, and the late fee for filing the form 1120 is substantial.
2. anything provided to an employee as part of the compensation for their work or services must be included on the W-2 and should not be reported separately on a 1099, unless it falls under one of the categories of tax free employee benefits described in publication 15.
3. although employee health insurance is excludable from income for most employees, this does not apply to the owners of S corporations who have a 2% or greater share of ownership. Presuming that you and your spouse are more than 2% owners, then the value of the medical insurance premiums must be included in your taxable income on your W-2. However, the medical premiums are not part of the wage base for calculating Social Security or federal unemployment taxes.
(If the S corporation went to an insurance company and purchased a group plan that covered its employees and paid the premiums on behalf of the employees, this would be a tax free employee benefit for all of the employees who are not 2% owners. What you seem to have done is to have the corporation advance money to you that you used to pay for private health insurance. This would be considered taxable wages even if you weren’t owners. If you have other employees and advanced them additional funds with the expectation that the employee will buy private health insurance, this must be included in W-2 wages and can’t be a tax-free benefit. It can only be a tax-free employee benefit if the company pays the premiums on a company owned group plan.)
4. since you will be paying income taxes on the money that the corporation advanced to you to pay your private health insurance premiums, you are eligible to claim those premiums as a schedule A itemized tax deduction. Whether you actually benefit depends on your other itemized deductions and your overall income situation. You are also eligible for affordable care premium tax credits if you are within the income limit.
here is the relevant part of publication 15.
Health insurance plans.
If you pay the cost of an accident or health insurance plan for your employees, including an employee's spouse and dependents, your payments aren't wages and aren't subject to social security, Medicare, and FUTA taxes, or federal income tax withholding. Generally, this exclusion also applies to qualified long-term care insurance contracts. However, for income tax withholding, the value of health insurance benefits must be included in the wages of S corporation employees who own more than 2% of the S corporation (2% shareholders). For social security, Medicare, and FUTA taxes, the health insurance benefits are excluded from the 2% shareholder's wages. See Announcement 92-16 for more information. You can find Announcement 92-16 on page 53 of Internal Revenue Bulletin 1992-5.
