Frequently Asked Questions

IRC Section 104(a)(3) is a provision in the Internal Revenue Code that excludes from gross income amounts received through accident or health insurance for personal injuries or sickness.

The key condition: the exclusion applies when the premiums for that insurance are paid by the individual with after-tax dollars—not by the employer or through pre-tax salary reduction.

Section 104(a)(3) has been part of the tax code since 1954 and has never been challenged or modified with respect to the after-tax premium principle.

The key difference is WHO pays the premium and the resulting limitations on excludable benefits:

Section 105 (employer-paid or pre-tax premiums):

• Applies when employer pays premiums or premiums are paid pre-tax through §125
• Benefits excludable only to extent of medical expense reimbursement (§105(b))
• "Excess" payments beyond actual expenses are taxable

Section 104(a)(3) (employee-paid with after-tax dollars):

• Applies when employee pays premiums with already-taxed income
• ALL benefits for personal injury/sickness are excludable
• No limitation to actual medical expenses (per Rev. Rul. 69-154)

Yes. When a wellness policy is funded with after-tax employee premiums, benefits paid from that policy are excludable under Section 104(a)(3).

Supporting authorities:

• Revenue Ruling 69-154: Confirms fixed indemnity payments exceeding actual medical expenses are excludable when premiums are paid after-tax
• CCA 201703013: States benefits are excluded "without regard to the amount of any medical expense incurred"
• Treasury Regulation §1.104-1(d): "If an individual purchases a policy... out of the individual's own funds, amounts received thereunder... are excludable"

The key is that the wellness policy premium must be paid with after-tax employee dollars—separate from any pre-tax funded coverage.

After-tax dollars are funds that have already been subject to income and payroll taxes. In a payroll context:

• After-tax: Deductions from net pay (after taxes are calculated)
• Pre-tax: Deductions that reduce gross pay before tax calculation

For Section 104(a)(3) to apply, the wellness policy premium must come from the employee's taxed income. This typically appears on pay stubs as a post-tax deduction, separate from Section 125 cafeteria plan deductions.

The IRS has never challenged the fundamental principle of Section 104(a)(3). In fact, IRS guidance has consistently confirmed it:

• CCA 201703013 (2017): "To the extent that premiums are paid with after-tax dollars, payments by the plan are excluded under §104(a)(3), without regard to the amount of any medical expense."
• Treasury Regulation §1.104-1(d): Confirms the after-tax premium exclusion
• Revenue Ruling 69-154 (1969): Establishes excess benefit treatment for after-tax policies

IRS challenges (via CCAs) have been directed at pre-tax-only structures that claim tax-free benefits under Section 105—not at properly structured after-tax arrangements under Section 104(a)(3).

Revenue Ruling 69-154, issued in 1969, established that fixed indemnity payments exceeding actual medical expenses are excludable from gross income under Section 104(a)(3) when premiums are paid with after-tax dollars.

The ruling specifically held that the Section 104(a)(3) exclusion "is not limited to amounts received as reimbursement for medical expenses."

This is critical for wellness programs because fixed indemnity wellness benefits often exceed actual healthcare costs. Revenue Ruling 69-154 confirms these "excess" benefits are still tax-free when the after-tax premium condition is met.

In a dual-premium structure:

• Policy 1 (Pre-Tax): Funded through §125 salary reduction. Covers MEC, critical illness, accident. Operates under §105/§106. Benefits limited to medical expense treatment.
• Policy 2 (After-Tax): Funded with after-tax employee dollars. Covers wellness/fixed indemnity benefits. Operates under §104(a)(3). Benefits excludable regardless of actual expenses.

The employee pays the Policy 2 premium from net pay—after taxes have been calculated. Because the premium comes from already-taxed income, Section 104(a)(3) applies and wellness benefits are properly excludable.

The full statutory text is available:

• On this website (Statute page)
• Cornell Law School Legal Information Institute
• Any current edition of the Internal Revenue Code, Title 26

Treasury Regulation §1.104-1(d) provides the official interpretation and is available at the IRS website or in the Code of Federal Regulations (26 C.F.R.).