Have you seen an increase in your family’s medical expenses? Medical costs have risen drastically in the past few years and options are limited. However the tax code allows you to write off un-reimbursed medical expenses. The most generally understood way is to include them as itemized deductions. However the big caveat is that those expenses can only be deducted to the extent they exceed 10% of your adjusted gross income (AGI). For example, if your AGI is $50,000 and had $6,000 of out of pocket medical expenses you could only deduct the amount that exceeds 10% of your adjusted gross income or $5,000. In this scenario a $1,000 deduction. You lose out on the first $5,000 in expenses.
There is good news though, the tax code allows a few additional ways to deduct out of pocket medical/dental/vision expenses.
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First for those that are self-employed, can write off their medical insurance premiums on line 29 of their personal tax return. But this covers insurance premiums only.
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Second for all the other medical expenses not covered by insurance you can utilize a FSA, HSA or HRA.
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Some employers offer FSA or flexible spending accounts which allows you to set aside pre-tax dollars out of your paycheck. These funds can then be used to pay for out-of-pocket medical expenses. However you can only contribute $2,600 for 2017. Additionally any funds unused at the end of the year are lost. This creates some complexity as you have to fund the FSA before the year begins and uncertainty as to what your medical expenses will be for the next 12 months.
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HSA or health savings accounts can be operated individually or in conjunction with your employer. HSAs can only be used in conjunction with a high deductible plan. Similar to a FSA these funds can then be used to pay for out-of-pocket medical expenses. For 2017 you can contribute $3,400 for yourself, $6,750 for a family with an additional $1,000 if you are older than 55. Unlike a FSA unused funds roll over to the next year. Additionally if you have enough money in a HSA you can invest it as well. In general if you are healthy a HSA can be a great way to "pre-fund" medical expenses years in advance and watch those funds grow over time to be utilized later in life.
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Now if you own a business or have a side gig you can also utilize a HRA or health reimbursement arrangement. There are specific rules depending on how you file your taxes but it allows you to receive reimbursement through your business for qualified medical expenses. There are several ways an HRA is more flexible than a FSA or HSA. Unlike FSAs and HSAs you don’t have to contribute to a separate account ahead of time, qualified expenses are reimbursed as they occur, thus increasing your cash flow which is vitally important to growing your business. Unlike an FSA you don’t lose any unused funds at the end of the year and unlike a HSA you don’t have to be enrolled in a high deductible plan. The added bonus is that these qualified expenses are deducted on your business return and are non-taxable to you. Let's run through an example:
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$7,000 out-of-pocket medical expenses with AGI of $75,000, nothing can be deducted as an itemized deduction.
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With a federal tax rate of 25%, state rate of 5% and a Schedule C business an additional 15.3% owed in FICA taxes.
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A combined rate of 45.3% multiplied by the $7,000 in expenses results in $3,171 in savings!
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A HRA Plan allows a qualified business owner to deduct:
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Health insurance and dental insurance premiums for eligible employee(s) and family. This also includes qualified long-term care insurance.
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Out-of-pocket medical, dental, and vision care expenses for eligible employee(s) and family.
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Life, disability income, contact lens, hearing aid, Medicare Part A, Medicare Supplemental, optical/vision, and cancer insurance premiums for eligible employee(s).
Chad, how do I set up an HRA? Great question! I partner with TASC, they do a great job setting up and administering HRA plans. They or I can go over your specific situation and help you decide if a HRA make sense for you. Additional information can be found here as well: https://www.tasconline.com/products/bizplan/section-105-plan/ With an annual cost of a few hundred dollars this can be a worthy investment to reap great benefits. Please keep in mind that every tax situation is different and should be consulted in conjunction with a qualified tax adviser. Contact me at Chad@HuebschFinancial.com or 314-202-2680.