How to Set Up a Small-Business HRA: QSEHRA vs. CHOICE Arrangement

If you run a small business, a health reimbursement arrangement can give your team flexible, tax-free health benefits without the cost and rigidity of a group plan. Here’s how to choose between a QSEHRA and a CHOICE Arrangement and set it up the right way.

If you’re a small business owner wondering how to set up an HRA for your employees, you’re joining a growing number of employers who are moving away from one-size-fits-all group health insurance. With a health reimbursement arrangement (HRA), you give employees a set, tax-free allowance, and they choose the individual health insurance plan that fits their needs, doctors, and budget. This approach is often called a defined contribution model because you control the budget while employees control their coverage choices.

The good news is that setting up an HRA is more manageable than many small employers expect. You have two main options: the QSEHRA, built specifically for businesses with fewer than 50 employees, and the CHOICE Arrangement (formerly ICHRA), which works for employers of any size. The key is choosing the one that fits your business and following the federal rules that govern it.

Which HRA fits your business?

If you have fewer than 50 full-time employees (including FTEs), want one simple allowance for everyone, and the IRS caps cover what you’d like to offer, a QSEHRA is usually the simpler fit. If you want to offer more than the caps allow, set different allowances for different groups, keep a group plan for part of your team, or expect to grow past 50 employees, a CHOICE Arrangement gives you more room.

This guide covers:

• The two main HRA options for small employers: QSEHRA and CHOICE Arrangement (formerly ICHRA)

• How to decide which one fits your business

• A step-by-step process for setting up either arrangement

• Key 2026 and 2027 numbers and deadlines to keep on your radar

First, a quick note on names: ICHRA is now CHOICE Arrangement

ICHRA has a new name: CHOICE Arrangement. In September 2026, the Centers for Medicare & Medicaid Services (CMS) and the U.S. Small Business Administration began using CHOICE Arrangement as the official name for the individual coverage HRA. CHOICE stands for Custom Health Option and Individual Care Expense.¹

New name, same benefits.

CMS describes a CHOICE Arrangement as an HRA that lets employers give employees tax-free money to buy their own individual health insurance in place of a traditional group health plan, and it confirms these arrangements were previously known as ICHRAs.¹ The rules, eligibility requirements, and tax treatment have not changed.

Because many employers, brokers, and employees still search for and talk about ICHRA, you'll see both names throughout this guide.

What is a health reimbursement arrangement?

A health reimbursement arrangement is an employer-funded health benefit that reimburses employees tax-free for qualifying health insurance premiums and, if the employer chooses, other qualified medical expenses. Here's how it generally works:

• You set the allowance. The employer decides how much money to offer each month.

• Employees buy their own coverage. Each employee chooses an individual health insurance plan that works for them.

• Employees submit proof of expenses. Employees submit documentation of premiums or other eligible expenses.

• You reimburse, tax-free. Approved reimbursements are paid up to the allowance amount, and unused funds stay with the employer.

Since reimbursements happen only after an employee incurs a qualifying expense, you pay for what employees actually use rather than prefunding an account.

QSEHRA vs. CHOICE Arrangement: Which HRA fits your business?

Before you can set up an HRA, you need to decide which type you're offering. For most employers, the choice comes down to two options.

Qualified small employer HRA (QSEHRA)

The QSEHRA is designed specifically for small businesses. Key features include:

• Size limit: Available only to employers with fewer than 50 full-time employees, including full-time equivalents (FTEs). In other words, the employer can’t be an applicable large employer (ALE) under the ACA.²

• No group plan allowed: You can't offer a group health plan to any employee while offering a QSEHRA

• Annual contribution caps: The IRS sets a maximum reimbursement amount each year

• Same terms for all eligible employees: Allowances can vary only by factors like family size and age-based premium differences²

• Coverage requirement: Employees must have minimum essential coverage to receive tax-free reimbursements²

CHOICE Arrangement (formerly ICHRA)

The CHOICE Arrangement offers more flexibility and works for businesses of every size. Key features include:

No size limit: Available to employers with 1 employee or 10,000

• No contribution caps: Employers set whatever allowance fits their budget

• Employee classes: Employers can offer different allowances to different permitted groups of employees, such as full-time, part-time, salaried, hourly, or employees in different geographic rating areas¹

• Group plan coexistence: Employers can offer a group plan to some employee classes and a CHOICE Arrangement to others, though never both options to the same class⁴

• Coverage requirement: Employees must enroll in individual health insurance or Medicare to participate¹

How to decide

The QSEHRA is often a strong fit if your business:

• Has fewer than 50 full-time employees, including FTEs

• Wants a simple, uniform benefit for everyone

• Is comfortable working within annual contribution limits

A CHOICE Arrangement (formerly ICHRA) is often the better choice if your business:

• Has 50 or more employees, or expects to grow past that point

• Wants to offer larger allowances than QSEHRA caps allow

• Needs different benefit levels for different employee groups

• Wants to keep a group plan for some employees while moving others to individual coverage

• Has employees spread across multiple states

CMS notes that employers often explore CHOICE Arrangements when group premiums have climbed year over year, when they want to offer a health benefit for the first time, or when their workforce spans multiple states.¹

Key HRA numbers at a glance

How to set up a health reimbursement arrangement: Step by step

Once you've chosen your HRA type, the setup process follows a similar path for both. Where the rules differ, we'll call it out.

Step 1: Choose your start date

If you don't currently offer a group health plan, you can generally launch an HRA at the start of any month. Many employers choose January 1 so the benefit aligns with the individual market's open enrollment period, which makes it easier for employees to shop for and enroll in plans.

Keep in mind that both HRA types require you to give eligible employees written notice well before the plan year begins (more on that in step 6). That notice deadline is the main factor that determines how early you need to start planning.

Step 2: Plan your transition from a group plan (if applicable)

If you currently offer group health insurance, your next move depends on which HRA you choose:

• QSEHRA: You'll need to cancel your group plan entirely, since a QSEHRA can't be offered alongside any group health coverage.

• CHOICE Arrangement (formerly ICHRA): You can cancel your group plan or keep it for certain employee classes while offering the HRA to others.

If you're ending a group plan, schedule its termination date for the day before your HRA begins so employees don't experience a gap in coverage. Losing group coverage typically qualifies employees for a special enrollment period in the individual market, and an HRA offer can trigger one as well.

Step 3: Confirm who is eligible

Eligibility rules work differently for each arrangement, so this step deserves careful attention.

For a QSEHRA, you must offer the benefit to all full-time employees on the same terms. Federal guidance allows you to exclude certain groups, including:²

• Employees who have not completed 90 days of service

• Employees under age 25

• Part-time and seasonal employees

• Employees covered by a collective bargaining agreement

• Nonresident aliens with no U.S.-source earned income

Keep in mind that 2% shareholders in an S corporation can’t participate in a QSEHRA, because the IRS doesn’t treat them as employees for this benefit.²

For a CHOICE Arrangement (formerly ICHRA), you can define eligibility using permitted employee classes, and you can combine two or more classes when designing your plan.¹

You also decide whether spouses and dependents can participate. Keep these rules in mind:

• If you offer a group plan to some classes and a CHOICE Arrangement to others, minimum class size requirements may apply depending on the classes you use and the size of your company.⁴

• Self-employed independent contractors cannot participate, since the arrangement is designed as a tax-favored employee benefit.¹

• Applicable large employers (ALEs) should consider how eligibility decisions affect compliance with the ACA employer mandate.¹

Step 4: Set your budget and allowances

This is where the two arrangements differ the most.

QSEHRA allowances have no minimum contribution requirement, but they are capped by annual IRS limits. For 2026, the maximum reimbursement amounts are:³

• Self-only coverage: $6,450 per year ($537.50 per month)

• Family coverage: $13,100 per year (about $1,091.67 per month)

The IRS typically publishes the next year's QSEHRA limits in the fall. Federal guidance allows employers to rely on the prior year's limits while waiting for the new amounts, as long as the allowance they set does not exceed the limits that ultimately apply.²

CHOICE Arrangement (formerly ICHRA) allowances have no federal minimum or maximum. You can offer the same amount to everyone or vary allowances within a class based on:¹

• Age: The allowance for the oldest employees can be up to three times the amount offered to the youngest employees.

• Family size: You can offer larger allowances to employees covering a spouse or dependents.

If you're an ALE with 50 or more full-time and full-time equivalent employees, your allowance also needs to meet the ACA's affordability standard to help you avoid employer mandate penalties. For CHOICE Arrangements, affordability is measured using the cost of the lowest-cost silver plan available to the employee after the allowance is applied. The IRS has set the affordability percentage at 9.96% of household income for 2026⁶ and 10.22% for plan years beginning in 2027.⁵

CMS offers a free cost estimator tool to help employers model monthly costs and see what employees might pay.¹

Step 5: Decide what expenses you'll reimburse

Both arrangements let you choose the scope of your benefit. Common approaches include:

• Premium-only: Reimburses individual health insurance premiums

• Premiums plus medical expenses: Also reimburses qualified out-of-pocket costs such as deductibles, copays, and prescriptions

For CHOICE Arrangements, eligible coverage includes individual health insurance purchased through the Marketplace, individual coverage purchased off-exchange, Medicare Parts A and B, and Medicare Advantage.¹ CMS notes that non-ACA products, including short-term plans, faith-based plans, indemnity plans, and supplemental plans, do not qualify as eligible coverage for a CHOICE Arrangement.¹

A tip worth considering: If an employee's premium is higher than their CHOICE Arrangement allowance, pairing the HRA with a Section 125 cafeteria plan can let them pay the remaining premium with pretax dollars. The catch is that this generally works only for off-exchange coverage, because employees can't use a cafeteria plan to pay premiums for Marketplace plans.¹

Step 6: Create plan documents and send required notices

Every HRA needs formal plan documents that outline how the arrangement works. Your documents should cover:

• Eligibility rules and any employee classes

• Allowance amounts and how they vary

• Which expenses are eligible for reimbursement

• How employees submit and substantiate claims

Both arrangements also require written notices to eligible employees:

• QSEHRA notice: Must be provided at least 90 days before the start of the plan year, or by the date an employee first becomes eligible. The notice must include the employee's allowance amount and explain how the QSEHRA may affect premium tax credit eligibility.²

• CHOICE Arrangement notice: Must generally be provided at least 90 days before the plan year begins, or by the date a newly hired employee becomes eligible. It must explain the terms of the arrangement, the employee's right to opt out, and how the offer affects eligibility for premium tax credits.⁴

Timing note for 2027: For a January 1, 2027 start date, the 90-day notice deadline was October 3, 2026. If you missed it, you don’t have to wait a full year. You can launch your HRA on the first day of a later month, as long as eligible employees receive notice at least 90 days before your start date. For example, a February 1, 2027 start requires notice by November 3, 2026.

Missing notice requirements can lead to penalties. Under a QSEHRA, for example, failing to provide the required notice can result in a penalty of $50 per employee, up to $2,500 per year.²

Step 7: Communicate the benefit to your team

Employees who are used to a traditional group plan may have questions about how an HRA works. A clear communication plan helps them feel confident using their new benefit. Your announcement should cover:

• When the HRA starts

• How much their allowance is

• What types of coverage qualify

• How to shop for and enroll in a plan

• How and when to submit reimbursement requests

Consider hosting a short information session or providing a simple one-page guide so employees can refer back to the details as they shop.

Step 8: Help employees shop for individual coverage

Choosing an individual health insurance plan can feel overwhelming, especially for employees who have never shopped for their own coverage. You can support them by sharing tools, resources, and enrollment help.

There's one important boundary to keep in mind. Employers should avoid steering employees toward a specific plan or insurance carrier. Employees need to make their own coverage decisions, so your role is to provide resources and access to support rather than recommend a particular policy.

Step 9: Manage reimbursements and stay compliant

Once your HRA is live, ongoing administration includes:

• Verifying that employees have qualifying coverage

• Reviewing and substantiating reimbursement requests

• Processing reimbursements on schedule

• Tracking allowance balances and plan-year limits

• Handling tax reporting, including reporting QSEHRA amounts on Form W-2²

• Updating allowances and notices each year

CMS notes that while some smaller employers administer simple arrangements internally, many work with a third-party administrator because ongoing documentation, reimbursement processing, and compliance responsibilities can add up quickly.¹

Ready to set up an HRA for your employees?

Setting up an HRA involves several moving parts, from choosing the right arrangement and designing your employee classes to meeting notice deadlines and processing reimbursements accurately. Working with an experienced HRA administrator can save you time and help you avoid costly compliance mistakes.

Take Command makes it simple to launch and manage a QSEHRA or CHOICE Arrangement (formerly ICHRA). Here's how we help:

• Plan design support to help you choose the right arrangement, classes, and allowances

• Compliance built in, including plan documents, required notices, and coverage verification

• Automated reimbursements that save your team hours of manual work

• Personalized enrollment support from a dedicated team that helps employees compare on- and off-exchange plans based on their budget, preferred doctors, and prescriptions

Talk to our team today to find out which HRA fits your business and how quickly you can get started.

References

1. Centers for Medicare & Medicaid Services. "Employer Initiatives: CHOICE Arrangements: A Guide for Employers." https://www.cms.gov/marketplace/employer-initiatives

2. Internal Revenue Service. "Notice 2017-67: Qualified Small Employer Health Reimbursement Arrangements." https://www.irs.gov/pub/irs-drop/n-17-67.pdf

3. Internal Revenue Service. "Revenue Procedure 2025-32." https://www.irs.gov/pub/irs-drop/rp-25-32.pdf

4. Federal Register. "Health Reimbursement Arrangements and Other Account-Based Group Health Plans" (Final Rule, June 20, 2019). https://www.federalregister.gov/documents/2019/06/20/2019-12571/health-reimbursement-arrangements-and-other-account-based-group-health-plans

5. Internal Revenue Service. "Revenue Procedure 2026-26." https://www.irs.gov/pub/irs-drop/rp-26-26.pdf

6. Internal Revenue Service. “Revenue Procedure 2025-25.” https://www.irs.gov/pub/irs-drop/rp-25-25.pdf