What Is an ICHRA and How Does It Work? (2026 Guide)

Tired of the one size fits all approach to health benefits? If you’re an employer dealing with rising group plan premiums and complex participation rules, there’s a more flexible, modern solution you need to know about. It’s called an Individual Coverage Health Reimbursement Arrangement, or ICHRA for short.

So what is an ICHRA, and how does it work? An ICHRA is an employer-funded health benefit where the company provides a tax-free monthly allowance. Instead of being locked into a single group plan, employees use that allowance to buy their own individual health insurance policy that best fits their personal needs. This guide breaks down everything from setting it up to keeping it compliant, all in simple terms, with the regulation behind each rule.

One clarification worth making early, because it is the most common misunderstanding: an ICHRA is not insurance. It is a tax-advantaged reimbursement arrangement that pays for insurance the employee buys.

The ICHRA Model: A Shift to Flexible Funding

In essence, an ICHRA shifts the employer’s role from a policy-holder to a benefits funder. You set the budget, and your employees get the freedom to choose their coverage. Starting in January 2020, this model offers a powerful way to control costs while providing a valuable, personalized health benefit.

ICHRAs were created by a final rule issued jointly by the Departments of the Treasury/IRS, Labor, and Health and Human Services on June 20, 2019 (84 FR 28888). The operative regulations sit in three parallel places: 26 CFR § 54.9802-4 (Treasury/IRS), 29 CFR § 2590.702-2 (DOL), and 45 CFR § 146.123 (HHS).

The Nuts and Bolts: A Step by Step Look at How an ICHRA Works

The core of the ICHRA model is reimbursement. The company doesn’t pay an insurance carrier directly. Instead, it pays the employee back for their health expenses. For a deeper dive into what counts as an eligible expense and how taxes apply, see our employee reimbursement types and tax rules guide.

Here’s the typical flow:

1. Employer Designs the Plan: First, the company decides on the monthly allowance amounts. You’ll also define which employees are eligible and what types of expenses (like premiums only or premiums plus medical costs) can be reimbursed.
2. Employees Shop for Coverage: Each eligible employee must enroll in a qualified individual health insurance plan. They can shop on the public Marketplace (like Healthcare.gov) or buy a plan directly from an insurer. This is a key step, as employees must have a valid policy to get reimbursed.
3. Employees Submit Proof of Expense: After an employee pays their monthly premium or incurs a medical expense, they submit a claim for reimbursement. This usually involves uploading a receipt or an invoice through an online portal.
4. Company Verifies and Reimburses: The employer (or their HRA administrator) reviews the submission to confirm it’s an eligible expense and that the employee has qualifying coverage. This verification step, called substantiation, is required by the IRS.
5. Reimbursement is Paid: Once approved, the employee receives their reimbursement tax free, up to their monthly allowance limit. These funds are typically paid out through payroll as a separate, non taxable line item or via direct deposit.

For example, if you offer a $400 monthly allowance and an employee’s premium is $350, they submit proof and get $350 back tax free. The remaining $50 in their allowance could potentially be used for other medical costs if your plan allows it.

Unused allowance stays with the employer. An ICHRA is a notional arrangement, not a funded account the employee owns, so you only pay for what employees actually use, up to the cap you set.

Who Can Offer an ICHRA? (Hint: Almost Anyone)

One of the best features of an ICHRA is its wide eligibility. Unlike some other HRAs that are limited to small businesses, any employer of any size can offer an ICHRA. Whether you’re a startup with two employees or a large corporation with thousands, you can implement this benefit. This is a structural difference from a QSEHRA, which is limited to employers with fewer than 50 full-time-equivalent employees. See ICHRA vs QSEHRA for the full comparison.

There are no minimum participation requirements, which is a huge advantage over group plans that often require a certain percentage of employees to enroll. You can offer an ICHRA even if only one employee decides to use it. There is also no medical underwriting of the employer’s group.

There is one hard rule: an employer cannot offer the same class of employees a choice between a traditional group health plan and an ICHRA. It is one or the other, per class.

Who is Eligible to Participate in an ICHRA?

While employers have broad flexibility, there are two key requirements for employees to participate and receive funds from an ICHRA.

Employee and Coverage Requirements

First, only W2 employees are eligible. Business owners in certain structures (like S corp owners with more than 2% ownership) and 1099 contractors are generally not eligible to participate tax-free. Partners in a partnership and sole proprietors are generally not employees for these purposes either. Because this turns on entity type and tax treatment, it is a question for the business’s own tax adviser.

Second, and most importantly, an employee must be enrolled in a qualifying individual health insurance plan or Medicare for each month they are covered by the ICHRA. This policy must provide Minimum Essential Coverage (MEC) as defined by the Affordable Care Act (ACA).

What counts as qualifying coverage:

• An Exchange (Marketplace) plan
• An off-Exchange individual plan bought directly from a carrier
• A student health insurance plan, per the regulation
• Medicare Part A and B, or Part C
• Catastrophic coverage, where the employee is eligible for it

Plans that don’t count include:

• Coverage through a spouse’s or parent’s group plan
• Short term limited-duration insurance
• Vision or dental only plans, and other excepted-benefits-only coverage
• Health care sharing ministries
• TRICARE, which does not satisfy the enrollment requirement

If an employee is not enrolled in qualifying coverage, they cannot be reimbursed, and the employer is required to have a reasonable procedure for verifying enrollment.

Can Dependents Be Covered?

Yes, employers can choose to extend ICHRA benefits to an employee’s dependents, which typically includes a spouse and children up to age 26. If you allow dependent coverage, the employee can be reimbursed for their family members’ premiums and medical expenses. Just like the employee, any covered dependent must also be enrolled in a qualifying individual health plan or Medicare.

Designing Your ICHRA: Allowances, Classes, and Rules

This is where the power of ICHRA really shines. You have significant control over the plan’s design, allowing you to tailor the benefit to your budget and your workforce.

Setting the Budget: How ICHRA Allowances are Designed

Employers determine the monthly allowance amount, and there are no government mandated minimums or maximums. You can offer $200 a month or $2,000 a month. This gives you predictable, stable costs, a stark contrast to the volatile annual renewals of group plans.

Within a class, the allowance must be offered on the same terms, with exactly two permitted variations:

• Family Status: You can offer a higher allowance for employees with dependents.
• Age: You can offer more to older employees, since their insurance premiums are higher. However, the allowance for the oldest employee in a class cannot be more than three times the allowance for the youngest, mirroring the 3:1 age-rating band in the individual market.

No other variation is permitted, not by tenure, not by salary within the class, not by health status, not by role. For how to arrive at the number itself, see how much to reimburse through an ICHRA.

Premium Only vs. Premium Plus: What Can an ICHRA Reimburse?

You also get to decide what the allowance money can be used for. There are two main approaches:

• Premium Only ICHRA: This is the most common and simplest design. The funds can only be used to reimburse employees for their individual health insurance premiums. A major benefit of this structure is that it is compatible with Health Savings Accounts (HSAs).
• Premium Plus Medical Expense ICHRA: This design allows employees to be reimbursed for their premiums plus other out of pocket medical expenses defined by the IRS under IRC § 213(d) (like deductibles, copayments, and prescriptions). IRS Publication 502 is the reference list for what qualifies. While this provides a broader benefit, it is generally not compatible with an HSA.

If many employees value HSAs, a premium only plan is the way to go. Employers may also choose to reimburse Medicare premiums (Parts A, B, C, D, and Medigap) for Medicare-enrolled employees.

Customizing Your Crew: Understanding ICHRA Employee Classes

ICHRAs allow you to offer different benefits to different groups of employees through a system of “classes”. See our guide on how to calculate employee classes by role for practical examples. You can vary allowance amounts or even offer an ICHRA to one class while keeping a traditional group plan for another.

Classes must be drawn from the eleven the regulation permits. An employer cannot invent its own:

• Full time employees
• Part time employees
• Seasonal employees
• Employees covered by a collective bargaining agreement
• Employees in a waiting period
• Foreign employees who work abroad with no US-source income
• Salaried employees
• Non salaried (for example, hourly) employees
• Temporary employees of staffing firms
• Employees in the same insurance rating area
• A combination of two or more of the above

New hires may also be treated as a separate class from existing employees in the same category, the “new hire” sub-class, which lets an employer move new employees onto an ICHRA while grandfathering existing staff on a group plan.

For example, you could offer your full time, salaried staff in California a $600 allowance and your part time, hourly staff a $300 allowance. The critical rule is that all employees within the same class must be offered the ICHRA on the same terms.

Platforms like SimplyHRA make it easy to set up these classes and assign different allowances, helping you build a fair and compliant benefits structure.

The Fine Print: The Minimum Class Size Rule

There is one important safeguard. If you offer a traditional group plan to one class and an ICHRA to another, the ICHRA class must meet a minimum size. This prevents employers from unfairly moving small groups of less healthy employees off the group plan.

The minimum size depends on your total number of employees:

• Fewer than 100 employees: The class needs at least 10 employees.
• 100 to 200 employees: The class must include at least 10% of your employees.
• More than 200 employees: The class needs at least 20 employees.

This rule only applies when you are offering a mix of ICHRA and group coverage. If you offer an ICHRA to all employees, there are no class size minimums to worry about.

How the Tax Treatment Works

This is the part that makes an ICHRA worth doing.

• Employee: Reimbursements are excluded from gross income. They are not subject to federal income tax, Social Security, or Medicare tax.
• Employer: Reimbursements are a deductible business expense, with no payroll tax on the reimbursed amounts.

The authority for the exclusion is IRC §§ 105 and 106. IRS Publication 15-B, the Employer’s Tax Guide to Fringe Benefits, is the plain-language employer reference for how HRAs are treated.

ICHRA and the ACA: Staying Compliant

For businesses with 50 or more full time equivalent employees (known as Applicable Large Employers, or ALEs), offering health benefits isn’t just a perk, it’s a requirement under the ACA. If you operate multiple related entities, review how controlled group rules affect ALE testing and ICHRA offers. A properly structured ICHRA can satisfy this employer mandate under IRC § 4980H, provided it is affordable and offered to substantially all full time employees.

ALEs still file Forms 1094-C and 1095-C, using the ICHRA-specific offer codes on line 14.

What is the ICHRA Affordability Rule?

An ICHRA is considered “affordable” under the ACA if the employee’s required contribution for the lowest cost Silver plan in their area is no more than a set percentage of household income. For plan years beginning in 2026 that percentage is 9.96% (IRS Rev. Proc. 2025-25; the figure is indexed annually, so confirm it for your plan year). For step‑by‑step worksheets and this year’s thresholds, see our 2026 ICHRA affordability guide.

The formula is:
(Cost of Lowest Cost Silver Plan for self-only coverage) - (Your Monthly ICHRA Allowance) = Employee’s Required Contribution

If that contribution is below the affordability threshold, your offer is affordable, and you’ve met your ACA obligation for that employee. The IRS provides safe harbors (W-2, rate of pay, and federal poverty line) so employers do not have to know each employee’s household income. SimplyHRA provides tools and guidance to help you set allowances that meet ACA affordability safe harbors.

Juggling Benefits: ICHRAs and Premium Tax Credits

The affordability of your ICHRA offer directly impacts an employee’s eligibility for Premium Tax Credits (PTCs), which are government subsidies to help pay for Marketplace plans. Get the full 2026 rules and examples in our guide to ICHRAs and ACA tax credits (2026).

• If your ICHRA offer is affordable, the employee is not eligible for PTCs. They must use the ICHRA.
• If your ICHRA offer is unaffordable, the employee has a choice. They can accept the ICHRA, or they can decline (opt out of) the ICHRA and receive PTCs on the Marketplace instead. They cannot have both.

Because of this, employers must give employees the opportunity to opt out of and waive the ICHRA at least once a year. That opt-out right is what preserves an employee’s ability to claim a PTC when the offer is unaffordable.

The 90 Day Notice Requirement

The employer must provide a written notice to each eligible employee at least 90 days before the beginning of each plan year. For employees who become eligible mid-year, the notice is due no later than the date their ICHRA coverage begins. This is a hard requirement, not a courtesy.

The notice must cover, among other items, the allowance amount, the requirement to be enrolled in individual coverage or Medicare, the right to opt out and waive future reimbursements, the effect on premium tax credit eligibility, and the fact that the offer triggers a special enrollment period. The full obligation set is in ICHRA compliance requirements.

Empowering Employees: Plan Choice and Special Enrollment

A huge win for employees is that an ICHRA offer triggers a Special Enrollment Period (SEP). This gives them a 60 day window to shop for and enroll in an individual health plan, even if it’s outside the standard Open Enrollment period in the fall.

This means you can start an ICHRA at any point during the year, and your employees will be able to get coverage without a gap. It also empowers them to choose a plan from any carrier that works with their preferred doctors and hospitals, a level of personalization impossible with a single group plan.

Outside of a SEP, open enrollment for individual coverage runs from November 1 to January 15 on HealthCare.gov, with a December 15 cutoff for coverage starting January 1. Several state-based Exchanges run different dates, so check the state’s own site. Note that beginning with the fall 2026 enrollment window, HealthCare.gov open enrollment ends December 15.

Advanced ICHRA Scenarios

The flexibility of ICHRAs extends to several other common benefits situations.

Can You Use an HSA with an ICHRA?

Yes, but only if the ICHRA is designed to be HSA compatible. As mentioned earlier, an ICHRA that only reimburses for insurance premiums is HSA compatible. An employee could use the ICHRA to pay for their high deductible health plan premium and still contribute to their HSA. If the ICHRA reimburses for general medical expenses before the applicable deductible is met, it will disqualify HSA contributions for that year.

How Do ICHRAs Work with Medicare?

ICHRAs integrate very well with Medicare. Medicare Parts A and B (or a Part C Advantage plan) count as qualifying coverage. An employer can offer an ICHRA to Medicare eligible employees to reimburse their premiums for Parts B, D (drug plans), Medigap supplemental plans, and Medicare Advantage. This is a fantastic, cost effective way to support older employees or provide a health benefit to retirees.

Can Employees Use a Section 125 Cafeteria Plan?

This is possible in a limited way. If an employee’s premium costs more than the ICHRA allowance, they can pay the difference with pre tax dollars through a Section 125 cafeteria plan, but only if they purchased their health plan off the public Marketplace. If they bought their plan on an exchange like Healthcare.gov, any portion they owe must be paid with after tax money. If pre-tax treatment of the employee’s share matters to your team, it affects where employees should shop.

Is an ICHRA the Right Fit?

An ICHRA tends to suit an employer who wants cost predictability and whose employees are spread across locations or life stages. It tends to suit less well where employees are concentrated in a single market with a strong group plan already in place, or where disrupting existing doctor-patient relationships would be costly. The real trade-offs (employee shopping burden, network changes, rating-area price variation, and loss of group purchasing power) are covered in ICHRA vs. traditional group health plans.

Ready to Simplify Your Health Benefits?

Setting up an ICHRA can seem complex at first, but the rewards are significant: predictable costs for you and personalized choice for your team. The key is having the right partner to manage the details.

SimplyHRA is a software platform designed to make ICHRA administration effortless. We handle plan documents, the 90 day notice, employee classes, enrollment substantiation, and monthly reimbursement tracking, and the platform works alongside any payroll or HR system with no integration required.

Schedule a consultation with SimplyHRA today to see how you can launch a flexible, cost effective health benefit that your employees will love.

Primary Sources

• 26 CFR § 54.9802-4 · 29 CFR § 2590.702-2 · 45 CFR § 146.123: the ICHRA rule
• 84 FR 28888 (June 20, 2019): Health Reimbursement Arrangements and Other Account-Based Group Health Plans, the final rule and its preamble
• IRS Publication 15-B: Employer’s Tax Guide to Fringe Benefits
• IRS Publication 502: Medical and Dental Expenses, the § 213(d) expense list
• IRC §§ 105, 106, 4980H
• IRS Rev. Proc. 2025-25: the § 36B applicable percentage for 2026 plan years
• IRS Notice 2013-54: the market-reform guidance the ICHRA rule was built to resolve
• healthcare.gov: individual market enrollment periods

Frequently Asked Questions about What is an ICHRA and How Does It Work

1. Is an ICHRA the same as health insurance?
No. An ICHRA is not insurance. It is a tax-advantaged reimbursement arrangement that pays for insurance the employee buys.

2. What is the main difference between an ICHRA and a traditional group health plan?
With a group plan, the employer chooses the insurance policy for everyone. With an ICHRA, the employer provides a tax free allowance, and each employee chooses their own individual insurance policy. For a deeper breakdown, see ICHRA vs. group plan: key differences for employers.

3. Is the ICHRA allowance considered taxable income for the employee?
No. As long as the employee maintains qualifying health insurance coverage, all reimbursements received through the ICHRA are 100% free of both income and payroll taxes.

4. What happens if an employee doesn’t use their full monthly allowance?
Typically, the unused funds remain with the employer. ICHRA allowances are generally “use it or lose it” on a monthly or annual basis, though employers have the option to design a plan that allows for some funds to roll over.

5. Is there a maximum an employer can contribute to an ICHRA?
No. Unlike a QSEHRA, an ICHRA has no statutory annual cap. The employer sets the allowance.

6. Can a very small business with only one employee offer an ICHRA?
Yes. Any employer with at least one W2 employee can offer an ICHRA. There are no size restrictions.

7. Can an employee take the ICHRA and a premium tax credit?
No. If the ICHRA is affordable, the employee is not eligible for a premium tax credit. If it is unaffordable, they may opt out of the ICHRA and claim the credit instead, but they cannot use both.

8. Can an employer offer an ICHRA and a group plan?
Yes, but never to the same class of employees. The employer may offer a group plan to one permitted class and an ICHRA to another, subject to the minimum class size rules above.

9. How does an ICHRA give my business more budget control?
With an ICHRA, you set a fixed monthly allowance per employee. This creates a defined contribution, meaning your maximum health benefit spending is predictable and capped. You are no longer subject to unpredictable annual premium increases from an insurance carrier.

10. Can a business owner participate in their own ICHRA?
It depends on entity type and how the owner is treated for tax purposes. S corp shareholders owning more than 2%, partners in a partnership, and sole proprietors are generally not employees for these purposes. This is a question for your tax adviser.

11. I use Gusto or Rippling for payroll. Can an ICHRA platform work with that?
Absolutely. Modern administrators like SimplyHRA offer a no-integration design that works with any payroll provider. This automates the reimbursement process, making it seamless for you and your employees. Use our integration checklist for HRIS and ICHRA platforms to plan your rollout with Gusto, Rippling, ADP, Plane, and more.

This article is general information, not tax, legal, or benefits advice. ICHRA rules interact with your specific facts, and current-year figures change. Confirm them against the primary sources cited above and consult your own advisers before making a benefits decision.