The Basics:
- If your employer has a flexible spending arrangement, consider using it to pay your medical expenses.
- To deduct medical expenses, you must itemize and medical expenses must exceed 10% of adjusted gross income (AGI).
- Disability is taxable if you receive payments based on premiums paid by your employer, but not taxable if you pay the premiums.
There are 4 key areas where your health- and medical-related expenses come into play on your tax return: exclusions, deductions, disability and credits.
Exclusions
If your employer has a section 125 plan — sometimes referred to as a flexible spending arrangement (FSA) or medical reimbursement arrangement — consider using it to pay your medical expenses.
An FSA lets you set aside some of your salary to cover your expected medical expenses for the year. After you pay the expenses, you submit receipts to the plan administrator, who then issues you a check for the amount you paid.
The advantage of an FSA is the amount you set aside is not taxed for income or employment tax purposes. It allows you to pay for your medical expenses on a pre-tax basis.
One disadvantage of an FSA is that you generally can’t get back any amounts that are not used by the end of the year (some plans allow you an additional 2½ months after the end of the year). Be cautious when estimating the amount you expect to spend for medical expenses. You can change the amount you set aside each paycheck only if certain circumstances arise, including marriage, divorce and birth of a child. Assuming you don’t greatly overestimate the amount you’ll spend, the tax savings will be larger than small unspent amounts.
If you are also paying now for your retirement health benefits “pre-funding” the amount paid in this year is deductible.
Deductions
If you’re self-employed, you may be able to deduct your health insurance premiums as an adjustment, but only up to the amount of income from your business. If you’re not self-employed, you can deduct your medical expenses only if you itemize deductions. You can deduct only the amount that is more than 10% of your AGI.
- medical insurance, including Medicare B and Medicare D premiums
- prescription drugs
- medical procedures
- mileage to and from medical facilities
Keep in mind, your health insurance premiums can’t be deducted if they’re taken out of your paycheck as pre-tax dollars. You also can’t deduct expenses you pay with pre-tax dollars (for example, amounts paid using your employer’s FSA).
Eligible medical procedures include surgery, certain fertility enhancement procedures, LASIK and similar procedures, and vasectomies.
The IRS has held that the cost of a full-body scan is deductible, even if you have no specific ailment and even if a doctor did not prescribe the procedure.
You can deduct the actual cost of traveling to and from a medical facility or, if you drive, you can deduct 24 cents per mile. If you meet specific requirements, you can deduct the cost of lodging not provided in a hospital or other medical facility, up to $50 a night.
Because medical bills are deductible only to the extent that they exceed 10% of your AGI, timing your payments may be beneficial. If you know you’re not going to reach the 10% limitation this year, try holding off paying any medical bills or scheduling medical exams and procedures until the following year. If you’re close to or already over the threshold, see what you can do to increase the deduction. Be sure to pay any outstanding medical bills, including health insurance premiums, by Dec. 31. Consider scheduling, being billed for and paying for elective medical and dental work before the end of the year. The same goes if you need new glasses, contact lenses, dentures, a hearing aid or modifications to a car to enable a disabled person to drive.
Disability
If you’re receiving disability benefits, you could be required to pay tax on all or a percentage of them, depending on the type of payment you’re receiving and who pays the premiums.
Generally, ordinary disability is not taxable to the extent you paid the premiums with after-tax dollars. Amounts you receive because of premiums your employer paid are most likely taxable. However, you may be able to claim the credit for the elderly and disabled if you are:
- Single, Head of Household, or Qualifying Widower, and your AGI is less than $17,500 and the total of your nontaxable social security or other nontaxable pensions, annuities or disability income is less than $5,000
- Married Filing Jointly, both spouses meet eligibility requirements, and your AGI is less than $25,000 and the total of your nontaxable social security or other nontaxable pensions, annuities or disability income is less than $7,500
- Married Filing Jointly, only one spouse qualifies, and your AGI is less than $20,000 and the total of your nontaxable social security or other nontaxable pensions, annuities or disability income is less than $5,000
- Married Filing Separately, you lived apart from your spouse for the entire year, and your AGI is less than $12,500 and the total of your nontaxable social security or other nontaxable pensions, annuities or disability income is less than $3,750
If you’re caring for a disabled person, you may be able to claim the Dependent Care Credit. Disabled individuals must be unable to care for themselves for you to qualify for the credit. An eligible disability prevents an individual from engaging in any substantial gainful activity because of a medically determined physical or mental impairment that is expected to result in death, or that has lasted or is expected to last for a continuous period of at least 12 months.
Social security disability is taxed under the usual rules for social security. Worker’s compensation is not taxable.
Credits
An important medical-related credit is the Health Coverage Tax Credit (HCTC), which can help pay for 65% of an eligible individual’s health plan premiums. You must be a qualifying individual (see below) who is enrolled in a qualified health plan to claim the HCTC and you can’t be eligible for Medicare Part A or be enrolled in Medicare Part B.
Qualifying individuals include trade-impacted workers and certain Pension Benefit Guaranty Corporation (PBGC) recipients. If you’ve lost your job because of increased imports or a shift in production to another country and qualify for Trade Adjustment Assistance or Alternative Trade Adjustment Assistance, you may be able to claim the credit. This group includes people who would have been eligible for a Trade Readjustment Allowance had they not exhausted all rights to their unemployment insurance benefits (other than state funded additional unemployment compensation for which the state is not reimbursed from federal funds).
To qualify, PBGC recipients must be at least 55 years old and receive pension benefits from the Pension Benefit Guaranty Corporation. You also may qualify if you are at least 55 years old and receive PBGC benefits as a survivor, a beneficiary, or as an alternate payee, or if you received a lump sum payment from the PBGC after Aug. 5, 2002.
You’re not eligible for the HCTC if you’re enrolled in a health plan maintained by your or your spouse’s current or former employer that pays at least 50% of the coverage. Any share of your premium that you or your spouse pay with pre-tax money is considered paid by your employer and must be included as such when determining the percentage of employer coverage.
Also, you’re not eligible for the HCTC if you’re enrolled in the Federal Employees Health Benefits Program, Medicaid, or State Children’s Health Insurance Program, or are entitled to health coverage through the U.S. military health system. (This does not include health coverage received as a Veterans Affairs benefit.)
Eligibility for the credit is determined on a month-by-month basis. Other rules apply. See Form 8885 and its instructions.
For more information about the tax implications of medical expenses, give us a call.
