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Self-employed deduction for health insurance costs (MS Word)

Self-employed deduction for health insurance costs (.pdf)

 

Self-employed deduction for health insurance costs

Dear Reader:

I am writing to advise you of the tax benefits available to self-employed individuals on their health insurance costs. Self-employed taxpayers can deduct 100% of their health insurance costs. This tax savings can reduce your after-tax cost of health coverage.

A brief review of the tax rules on health insurance premiums may be useful. Health insurance premiums are deductible as itemized medical costs, but only to the extent your total medical expenses exceed 7.5% of adjusted gross income (AGI). If total medical expenses don't exceed 7.5% of AGI, no itemized deduction is available. (If you are subject to the alternative minimum tax, total medical expenses must exceed 10% of AGI.) However, a self-employed taxpayer in these circumstances can nevertheless deduct 100% of health insurance costs as a “nonitemized” deduction, reducing AGI.

Example. Max, a self-employed taxpayer, pays $3,000 in health insurance premiums and has no other medical expenses. His AGI is $50,000. Since 7.5% of $50,000 equals $3,750, Max isn't able to claim any itemized deduction for his medical expenses (the health insurance premiums). However, since he is self-employed, he can deduct the entire $3,000.

These rules only apply for any calendar month in which you aren't otherwise eligible to participate in any subsidized health plan maintained by any employer of yours or of your spouse.

Also, no deduction is allowed to the extent that the deduction exceeds your earned income from the trade or business with respect to which the plan providing the medical care coverage was established.

These rules also apply to partners in partnerships and more-than-2% shareholders of S corporations where the partnership or corporation pays for health insurance coverage for its partners or shareholders.

Note that the deduction applies for income tax purposes only. Self-employment tax must be paid on the full amount, except that the 12.4% social security portion of that tax doesn't apply to self-employment income above a dollar ceiling ($106,800 for 2009 and $102,000 for 2008).

Example. Assume that Max's self-employment income for 2009 is $42,000. His self-employment tax is $5,934 ($42,000 self-employment income × 92.34% = net self-employment earnings of $38,783 × self-employment tax rate of 15.3% = $5,934). He can't deduct any part of his $3,000 health insurance premiums for this purpose.

As I mentioned above, these increased tax benefits effectively mean your cost of health insurance is reduced. You may wish to consider stepping up to improved coverage in light of these savings. Please call if you wish to discuss how these rules apply to your particular situation or if you have any questions.