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What Insurance Is Deductible
Above-The-Line Deduction for the Self-Employed
o Income Limitation
o Subsidized Limitation
Health insurance premiums, especially in the wake of the “Affordable Care Act,” have risen dramatically and are one of the largest expenses that most individuals pay. Although the cost of health insurance is allowed as part of an individual’s medical deductions when itemizing deductions, only the amount of total medical expenses that exceeds 7.5% of the taxpayer’s adjusted gross income (AGI) is deductible. Itemized deductions are detailed on the Schedule A form that is included in your Form 1040 tax return.
The purpose of this article is twofold: first, to remind you what insurance can be included as a medical deduction, and second, to inform you of an alternate means of deducting health insurance for certain self-employed individuals—a means that avoids the AGI limitation and allows for a deduction without itemizing.
Let’s start by looking at what is treated as deductible health insurance. It includes the premiums you pay for coverage for yourself, your dependents, and your spouse, if applicable, for the following types of plans:
Health Care and Hospitalization Insurance
Long-Term Care Insurance (but limited based upon age)
Medicare-C (aka Medicare Advantage Plans)
Premiums Paid through a Government Marketplace net of the Premium Tax Credit
Note: Medicare premiums paid through payroll taxes, sometimes referred to as the hospital insurance (HI) portion of FICA and self-employment taxes, generally are not a medical expense.
Further, premiums paid on your or your family’s behalf by your employer aren’t deductible because their cost is not included in your wage income. Or, if you pay premiums for coverage under your employer’s insurance plan through a “cafeteria” plan, those premiums aren’t deductible either because they are paid with pre-tax dollars.
Self-Employed (SE) Health Insurance Deduction – If you are a self-employed individual, partner in a partnership or a more-than-2%-shareholder of an S corporation you can deduct as an above-the-line expense 100% of the amount paid during the tax year for medical insurance on behalf of yourself, your spouse, dependents, and children under age 27 even if the child is not a dependent. Above-the-line deductions are allowed without having to itemize them on Schedule A. To be eligible for the SE health insurance deduction, one of the following statements must be true:
Sole Proprietorships – You had a net profit for the year reported on Schedule C – Profit or Loss from Business or Schedule F – Profit or Loss from Farming. The deduction cannot exceed your net earnings from your sole proprietorships for which the plan providing the coverage is established. Net earnings for this purpose are the net profit from Schedule C or F reduced by the 50% of self-employed tax deduction allowed for the year and/or the contributions to a qualified retirement plan, simplified employee pension (SEP) plan or SIMPLE plan. The health care policy can be either in the name of the business or in your name. If the medical insurance costs exceed the net profit from your business, the excess amount can be included as part of your Schedule A medical expenses if you itemize your deductions.
S-Corporation Shareholder – If you area more-than-2% S corporation shareholder, your wages (i.e., the Medicare wages from box 5 of Form W-2) from the S corporation are treated as earned income, and the premiums paid or reimbursed by the S corporation are shown as wages on your Form W-2. The policy can be either in the name of the S corporation or your name as the shareholder.
o If the S corporation pays the premiums, the premium amounts are included on Form W-2 as wages.
o If you (the shareholder) pay the premiums, and the policy is in your name, the S corporation must reimburse you and report the premium amounts on your W-2 as wages. Otherwise, the insurance plan won't be considered established under the business.
Partner in a Partnership– If you are a partner with net earnings from self-employment for the year reported on your Schedule K-1 from the partnership, the health insurance policy can be in the name of the partnership or in your name as the partner.
o If the partnership pays the premiums, the premium amounts must be reported on your Schedule K-1, Form 1065, from the partnership as guaranteed payments and included in your gross income.
o If you as a partner pay the premiums, and the policy is in your name, the partnership must reimburse you, and the premium amounts will need to be included in gross income as guaranteed payments on Schedule K-1. Otherwise, the insurance plan won't be considered established under the business.
No SE health insurance deduction is available for any month in which a self-employed individual is eligible to participate in a “subsidized” health plan maintained by an employer of the taxpayer, the taxpayer's spouse, or any dependent, or any child of the taxpayer who hasn't attained age 27 as of the end of the tax year. The term “subsidized” means at least 50% of the cost of the coverage is paid by the employer. This rule is applied separately to:
(1) plans that provide coverage for qualified long-term care services, or are qualified long-term care insurance contracts and
(2) other types of insurance plans.
Thus, an individual eligible for employer-subsidized health insurance may still be able to deduct long-term care insurance premiums, so long as he isn't eligible for employer-subsidized long-term care insurance.
The health insurance premiums claimed as an above-the-line SE health insurance expense cannot also be claimed as a Schedule A medical expense.
If you have any questions related to deducting health insurance premiums, either as an itemized deduction or an above-the-line deduction for self-employed individuals, please give this office a call.
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