Maximizing Health Insurance Tax Deductions
Individuals and business owners alike are concerned about the already high, and continually rising, cost of health insurance. But whether you are an employee, an employer, or a self-employed individual, there is a range of Federal tax deductions available, including breaks provided by health savings accounts (HSAs) and similar tax-advantaged accounts.
For Individuals
If you are an employee with access to group health care coverage, you do not pay taxes on the contributions you make to your health insurance premiums. But what are your options if your company does not provide medical benefits or if you own a business?
A savings account that must be paired with a qualified high-deductible health plan (HDHP), HSAs allow individuals to save money tax-free, and the employers of account holders can make tax-free contributions to workers’ accounts. If the funds are used to pay for out-of-pocket health care expenses, the money deposited in an HSA is never subject to Federal income tax. HSA contributions may be invested in a manner like retirement accounts, and investment earnings and interest accrue tax-free. These accounts can be especially attractive for higher-income individuals, as any funds not spent each year can be carried over indefinitely, and they may even be withdrawn penalty-free in retirement for non-qualified expenses.
Because they are used in conjunction with HDHPs, the cost of insurance premiums for HSA policies can be much lower than for comprehensive health plans. The statutory contribution limits for HSAs are set each year by the Internal Revenue Service (IRS). These annual contribution limits apply regardless of whether the deposits are made by the account holder or by his or her employer. HSAs are always owned and administered by individuals, and account holders may keep any funds contributed to their HSAs even if they change jobs.
HSA funds, which are usually accessed through a debit card or checks supplied by the health insurance provider, may be used to pay for a wide range of health care expenses, including doctors’ visits, hospital stays, medical tests, dental care, prescriptions, over-the-counter drugs, medical equipment, and even long-term care insurance premiums. Withdrawals that are not made for qualified medical expenses are, however, subject to income taxes and, for those under the age of 65, a 10% penalty. Any funds remaining in an HSA at the time of the account holder’s death may be passed on to a spouse tax-free or to another designated beneficiary, who must pay taxes on distributions.
For the Self-Employed
Whatever type of health coverage you select, you may be able to deduct your health insurance premium payments if you are self-employed. Provided you had a net profit for the year, you are generally entitled to deduct, as an adjustment to income, up to 100% of the amount paid for medical and qualified long-term care insurance on behalf of yourself, your spouse, and your dependents.
Under IRS rules, the insurance plan must be established under your trade or business, and the deduction may not exceed your earned income from that trade or business. You are not permitted to claim this deduction for any month in which you were eligible to participate in any subsidized health plan maintained by your employer or your spouse’s employer.
For Business Owners
If you are a business owner and wish to provide health care benefits to employees, you have several choices, including an HSA option coupled with a high-deductible plan or several group plans that feature more traditional forms of coverage, such as health maintenance organizations (HMOs) or preferred provider organizations (PPO). If you would like to offer employees a consumer-driven health plan like the HSA but would prefer to maintain greater control over the funds contributed to employee accounts, you may wish to consider a Health Reimbursement Arrangement (HRA).
Regardless of the type of business you operate, you can always deduct 100% of the premiums paid on behalf of your employees. If the business is incorporated, all costs for your own insurance, as well as for your employees, are deductible.
The high cost of health insurance can have a profound effect on both individuals and business owners. While certainly not a solution to rising costs, be sure to maximize your tax advantages and deductions to help keep more of your hard-earned money in your own pocket. To learn more, contact your tax professional.