The Medical Expense Deduction
Health insurance costs are included among expenses that are eligible for the medical expense deduction. You must itemize to claim this deduction, and it’s limited to the total amount of your overall costs that exceed 7.5% of your adjusted gross income (AGI).
How To Apply the Percentage Threshold
The 7.5% rule won’t usually help unless you have significant medical expenses in addition to your insurance premiums. You can include these expenses in the deduction to help you get over the 7.5% threshold. For example, you could not deduct your premiums if your AGI was $60,000 and you paid $4,500 in health insurance premiums over the course of the tax year because 7.5% of your AGI works out to $4,500. You didn’t pay anything in excess of $4,500 so you have no deduction. But if you’ve spent a cumulative total of $7,500 that means you paid $3,000 more than your threshold in uninsured medical expenses. You can claim that $3,000 as an itemized tax deduction.
The Threshold Doesn’t Apply to All Your Income
The good news is that this percentage applies to your AGI instead of your total gross income. This is the number that’s arrived at after you’ve taken certain above-the-line deductions on Schedule 1 of your Form 1040 tax return, which can reduce your gross income. Above-the-line deductions include things like certain retirement plan contributions, tuition, and student loan interest. Your AGI will typically be less than your overall income if you can claim any of these deductions. For example, you might have earned $60,000, but your AGI would be just $54,000 if you contributed $6,000 to your IRA in that year. Your 7.5% threshold would drop from $4,500 to $4,050 in our example.
Tax Deduction vs. Pre-Tax Pay Deduction
Employees who pay for health insurance with pre-tax dollars through payroll deductions aren’t eligible to take a further deduction for these same expenses. Check your pay stubs if you’re unsure how you’re paying for insurance that’s available through your employer. You’re using pre-tax dollars if the deductions are made before your employer calculates your tax withholding on the balance. Pre-tax health benefits reduce your taxable income. The income tax, Social Security tax, and Medicare tax that you must pay are all percentages of your taxable income.
If You’re Self-Employed
Self-employed persons can take a deduction for health insurance premiums they pay for themselves and their dependents on line 17 of the Schedule 1 form. This is another above-the-line adjustment to income. You can then transfer the total of Part 2 of Schedule 1 to your tax return. This is one of those deductions that can reduce your AGI from the total of your gross income, and you don’t have to itemize your deductions to take it. It’s not limited by the 7.5%-of-AGI rule, either. You can claim up to 100% of what you spent on premiums if you’re self-employed, but the deduction is limited to no more than your net self-employment income. But any premiums beyond your net self-employment income can be claimed as an itemized deduction, along with any other out-of-pocket medical expenses.
