Deducting Long-Term Health Care Insurance

You have three options when it comes to deducting long-term care insurance.

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Although it is not pleasant to think about, there is a good chance that you or your spouse (or both) will suffer from a chronic illness or disability some time during your lives and need long-term custodial health care. This is care that helps you with your daily activities such as washing, dressing, and bathing. Such care is expensive: According to the Health Insurance Association of America, the average cost of a nursing home exceeds $50,000 a year nationwide.

Medicare generally does not cover long-term custodial care. As a result, many people end up having to rely on Medicaid--the joint federal and state program that provides health care coverage to lower-income Americans. However, if you're not poor and don't want to become poor, this is not a good option.

One way to help pay for these costs is to obtain long-term care insurance. It can help pay for not just nursing home care, but for home-based services such as visiting nurses, home health aides, friendly visitor programs, home-delivered meals, and chore services.

Long-term care insurance isn't cheap--for example, a healthy 60-year-old couple can expect to pay $3,335-per-year (combined) for a plan that pays out a $150 daily benefit for up to three years. However, costs vary widely--how much you'll have to pay depends on your age, health, and how much coverage you obtain.

Fortunately, premiums for qualified long-term care insurance are deductible. There are three ways to deduct them--two of the ways limit the amount you can deduct, while the third allows you deduct the full cost.

Personal Itemized Deduction

Premiums for a long-term care insurance policy for yourself, your spouse, or any of your tax dependents (such as your parents) are deductible as an itemized medical deduction so long as the policy is “tax qualified.” To be qualified, such insurance must provide coverage only for qualified long-term services; be guaranteed renewable; have no cash surrender value; and not reimburse expenses covered by Medicare. (IRC Section 7702(B)(b)(1).) However, like all medical deductions, this deduction is limited to the amount your long-term care costs and all your other medical deductions exceed 7.5% of your adjusted gross income (10% in 2014 if you're under 65). Your adjusted gross income (AGI) is your total taxable income, minus deductions for retirement contributions and one-half of your self-employment taxes, if any, plus a few other items (as shown at the bottom of your Form 1040).

Moreover, there are annual dollar limits on the deduction. Your deduction is limited to the lesser of the actual insurance premium or the amounts listed in the chart below; premiums over these amount are not deductible.

Age at end of tax year 2014

Deduction limit on premiums per person

Age 40 or less

$370

Age 41-50

$700

Age 51-60

$1,400

Age 61-70

$3,720

Age 71 and older

$4,660

Long-term care insurance premiums may be paid from a Health Savings Account (HSA) up to the limits shown above.

Self-Employed Health Insurance Deduction

If you're self-employed--a sole proprietor, member of an LLC taxed as a partnership, or shareholder of an S corporation--you can deduct long-term health care insurance premiums as part of the self-employed health insurance deduction. This allows you to deduct your health insurance expenses for yourself, spouse, and dependents. It is an “above-the-line” deduction with no AGI limitation.

This is better than the itemized medical expense deduction. But there are still three bad things about this deduction:

  • it is limited to your business profit each year--no profit, no deduction
  • it is a personal deduction, not a business deduction, so it does not lower your net self-employment income for Social Security and Medicare tax purposes, and
  • it is subject to the same annual dollar limits as the itemized medical deduction for long-term care insurance.

Tax Deductible Employee Fringe Benefit

By far the best way to deduct long-term care premiums is as a tax deductible employee fringe benefit. If you're a sole proprietor or LLC member taxed as a partnership, you can hire your spouse as your employee. The salary and benefits you pay to your employee-spouse are tax deductible business expenses for you and tax-free benefits for your employee-spouse. The benefits you provide your spouse can include a long-term care insurance policy and the insurance can cover you as well as your spouse.

If you aren't married or are not in a position to hire your wife as your bona fide employee, there is another option: Form a C corporation to own and run your business (or LLC taxed as a C corporation) and work as its employee. Your corporation can provide you with long-term care insurance (as well as health insurance) as a tax-free employee benefit and deduct the full cost as a business expense on its own tax return.

by: , J.D.

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