Rising Health Care Costs: What Employers Should Review in Their Wellness Programs

Employer-sponsored health benefits remain a significant expense for businesses, particularly small and midsize companies trying to balance rising costs with employee retention and competitive compensation.

According to Aon, U.S. employer health care costs are projected to increase by 9.5% in 2027, pushing average annual costs above $19,000 per employee before mitigation efforts. For employers, this creates additional pressure to evaluate benefit design, manage expenses, and maintain programs that support their workforce.

Some businesses use wellness programs to encourage healthier employee behaviors and manage health plan costs. These programs may offer premium discounts, financial rewards, or reduced surcharges for employees who meet certain requirements.

However, an incentive that appears simple from a benefits-administration perspective can raise important compliance questions.

On August 26, 2026, the U.S. Departments of Labor, Treasury, and Health and Human Services issued new guidance addressing when participants in certain health-contingent wellness programs must receive rewards after completing an alternative standard. The guidance is particularly relevant to employer health plans that impose tobacco-use surcharges and offer tobacco-cessation programs as an alternative.

For employers, the update is an opportunity to review not only wellness-program rules, but also the financial, payroll, documentation, and administrative processes supporting those programs.

Why Wellness Programs Require Careful Review

Employer wellness programs can take different forms. Some simply encourage participation in educational activities, while others make financial incentives dependent on an employee’s health-related activity or outcome.

Federal rules distinguish between participatory programs and health-contingent programs.

Participatory wellness programs generally offer an incentive for participation without requiring an employee to achieve a particular health outcome. For example, a program might reimburse employees for attending a health education session regardless of whether their health status changes.

Health-contingent wellness programs make a reward or surcharge dependent on meeting a health-related requirement. Examples include completing a specified activity, achieving a biometric target, or avoiding a tobacco-related surcharge by satisfying the plan’s requirements.

Health-contingent programs are subject to additional nondiscrimination requirements. Depending on the program, employers may need to provide a reasonable alternative standard or waive the original requirement for eligible participants who cannot meet it.

These distinctions matter because the program’s design determines which requirements apply. A policy that works for one type of wellness program may not satisfy the rules governing another.

What the August 2026 Guidance Changes

The new federal guidance addresses a specific question: when an employee satisfies a reasonable alternative standard partway through the plan year, must the plan provide the associated reward retroactively for the earlier portion of that year?

Previously, regulatory commentary indicated that an eligible participant who completed an alternative standard during the year generally should receive the full reward for that plan year. The agencies have now clarified that, until further guidance or regulations are issued, they will not take enforcement action against a plan or issuer solely for failing to provide the reward retroactively, provided the reward is given for the period after the alternative standard is satisfied and the other applicable requirements are met.

This is an enforcement policy, not a blanket exemption from wellness-program compliance.

The plan must still meet the applicable requirements, including providing a reasonable alternative standard where required and allowing sufficient time for participants to complete it and receive the reward.

How This May Affect Tobacco-Use Surcharges

Consider an employer whose health plan imposes an additional premium charge on employees who use tobacco but provides a cessation program as an alternative.

An employee who completes the required alternative partway through the year may become eligible for relief from the surcharge.

Under the new enforcement policy, a plan that satisfies the applicable conditions may provide the reward only for the period after the employee completes the alternative, without being subject to federal agency enforcement solely because it did not apply the reward retroactively.

The guidance does not require employers to adopt this approach. A plan may provide a retroactive or prorated credit if its terms and administrative arrangements allow it.

For employers, the practical issue is whether the written plan terms, participant communications, payroll deductions, and benefits-administration procedures all reflect a consistent and compliant approach.

Incentive Limits Still Apply

Federal rules generally limit the total reward under a health-contingent wellness program to 30% of the total cost of the relevant health coverage. The limit can increase to 50% for programs designed to prevent or reduce tobacco use.

These calculations can become more complicated when different categories of employees or dependents participate, or when multiple incentives are offered under the same plan.

Rewards may include premium discounts, reduced cost sharing, additional benefits, or the avoidance of a surcharge. The financial effect should therefore be evaluated across the entire program rather than by reviewing each incentive in isolation.

An employer that changes one incentive without reviewing the overall program could inadvertently create a calculation or compliance issue.

Required Disclosures Cannot Be Overlooked

The new guidance also addresses disclosures concerning reasonable alternative standards.

Generally, materials describing the terms of a health-contingent wellness program must explain the availability of a reasonable alternative standard or, when appropriate, the possibility of a waiver. They must also explain how participants can obtain additional information and state that the program will accommodate recommendations from a participant’s personal physician.

For outcome-based programs, the notice requirement also applies in communications informing participants that they have not met the initial standard.

These requirements can affect enrollment materials, employee notices, plan documents, and communications generated by benefits vendors.

An employer should not assume that a brief reference to an available wellness program automatically satisfies the disclosure requirements. The content and context of the communication matter.

The Financial and Administrative Implications for Employers

The new enforcement policy may provide greater flexibility in administering rewards, particularly where retroactive premium adjustments would require additional calculations, payroll corrections, or refunds.

However, administrative convenience should not be the sole basis for changing a program.

Employers should consider how the policy affects several connected areas:

• Payroll administration: Are surcharges and premium adjustments being applied consistently?
• Benefits administration: Can the administrator identify when an employee has completed the alternative standard?
• Financial reporting: Are employer-paid incentives and related benefit costs being recorded appropriately?
• Plan documentation: Do the written terms accurately reflect how the program operates?
• Employee communications: Are participants receiving the notices required under the applicable rules?
• Vendor coordination: Are the employer, insurer, and third-party administrator working from consistent procedures?

These issues are particularly important for businesses that rely on outside providers to administer health benefits. Outsourcing administration does not necessarily eliminate the employer’s need to understand its responsibilities and monitor the program.

Tax and Payroll Treatment Should Also Be Reviewed

Wellness-program compliance and tax treatment are related, but they are not the same issue.

A program that satisfies the federal wellness nondiscrimination rules does not automatically qualify for favorable tax treatment. Depending on the nature of the reward, certain benefits or reimbursements may need to be evaluated for income inclusion and payroll reporting.

For example, the IRS has explained that reimbursement for general-health expenses, such as fitness-center fees, generally is not excluded from employee income merely because the reimbursement is offered through an employer wellness program.

Employers should therefore evaluate the actual incentives offered rather than assuming that every wellness reward can be treated as a tax-free employee benefit.

A coordinated review can help identify whether payroll reporting, benefit-cost accounting, and plan administration are consistent with the program’s design.

What Employers Should Review Before Their Next Plan Renewal

The new guidance provides a useful reason to revisit existing wellness arrangements, especially before renewing a health plan or modifying incentives.

A review may include:

• The current wellness-program design and applicable regulatory category
• The calculation of incentive limits
• The treatment of tobacco-related surcharges
• Procedures for handling reasonable alternative standards
• The timing of rewards and premium adjustments
• Participant notices and disclosure language
• Payroll and accounting processes
• Responsibilities assigned to insurers and third-party administrators

The appropriate scope depends on the employer’s plan and circumstances. Some businesses may need only targeted changes, while others may benefit from a more comprehensive review of their benefit arrangements.

Employers should also recognize that the federal enforcement policy addresses a particular issue. It does not establish compliance with every other applicable federal or state requirement, and it does not necessarily prevent participant claims or other legal challenges.

Why a Coordinated Professional Review Matters

Wellness programs can affect employee benefits, cash flow, payroll, financial reporting, and regulatory compliance at the same time.

Benefits counsel and plan administrators can help evaluate the legal requirements and the operation of the program. A CPA can contribute by reviewing the financial and tax implications, including how incentives are recorded, whether payroll treatment is appropriate, and how benefit costs fit into the company’s broader financial planning.

For a growing company, these details can become increasingly important as the workforce expands and benefit arrangements become more complex.

The goal is not simply to reduce health care costs. It is to evaluate whether the program’s financial objectives, administration, and compliance requirements are aligned.

Final Thoughts

Rising health care expenses are making employee benefits an increasingly important business-planning issue. The August 2026 federal guidance gives employers additional clarity on a narrow but significant aspect of health-contingent wellness programs.

However, the guidance should not be treated as permission to change rewards or surcharges without reviewing the rest of the program.

Employers should assess their current arrangements, confirm that the applicable requirements are being met, and coordinate any changes with their benefits and tax advisers.

A well-designed wellness program requires more than an attractive incentive. It requires a structure that is financially appropriate, properly documented, consistently administered, and reviewed as the business evolves.

Need Help Reviewing the Financial and Tax Side of Your Employee Benefits?

Velin & Associates, Inc. works with business owners and companies on tax planning, payroll-related tax matters, financial reporting, and business compliance.

If your company is reviewing employee benefit costs or updating its wellness-program arrangements, we can help evaluate the related financial and tax considerations and coordinate with your benefits and legal advisers where appropriate. For more information about our tax planning and tax compliance services, contact Velin & Associates, Inc. today.

Velin & Associates, Inc.

8159 Santa Monica Blvd STE 198/200
West Hollywood, CA 90046
📞 323-902-1000
📧 dmitriy@losangelescpa.org

This article is for general informational purposes only and does not constitute legal, tax, employee-benefits, or financial advice. Wellness-program requirements depend on the plan’s design and circumstances. Employers should consult qualified benefits and legal professionals regarding compliance obligations and seek individualized tax advice before implementing changes. CPA for YouTubers | CPA for Shopify Store | CPA for Commerce | CPA for Creators | Shopify Store CPA | CPA for Filmmakers | CPA for Amazon Business | Amazon Business CPA | CPA for Dental Practice | Dentist CPA | Dental Business CPA | Online Commerce CPA | CPA for Doctors | CPA for Medical Practice | CPA for High Net Worth Individuals | Tax Services Healthcare | Tax Services for a Business | Tax Services TikTok | Tax Services for Commerce | Tax Services Los Angeles | Bookkeeping and Tax Services | Tax Preparation | Accounting Firm | Tax Services for Doctor | Tax Services for Entertainment | Online CPA | CPA Los Angeles