How to Deduct Health Insurance on Your Income Tax Return

Health insurance premiums are deductible under some circumstances

Health Insurance claim
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It's always nice to get a tax break for something you have little or no choice about paying anyway. Carrying health insurance is mandatory under the terms of the Affordable Care Act, at least if you don't want to pay a tax penalty and for the time being. 

Although that penalty isn't deductible, some taxpayers can deduct the cost of the health insurance premiums they pay. Eligibility rules depend on whether you’re an employee or self-employed, and whether you paid for your insurance using pre-tax dollars or post-tax dollars.

It can also depend on whether you take the standard deduction or itemize. 

The Medical Expense Deduction

Health insurance costs are included in expenses that are eligible for the medical expense deduction. You must itemize to take this deduction, and it’s limited to the amount of your overall costs that exceed 10 percent of your adjusted gross income. It is very disadvantageous mathematically unless you have significant other medical expenses in addition to your insurance premiums. You can include these to help you get over the threshold.

Here’s an example: If your AGI is $60,000 and you paid $6,000 in premiums over the course of the tax year, you can’t deduct your premiums – 10 percent of $60,000 is $6,000, so you didn’t pay anything in excess of 10 percent of your AGI. But if you also paid $3,000 in uninsured medical expenses, you’ve now spent a cumulative total of $9,000, which is $3,000 more than your 10-percent threshold.

You can, therefore, claim that entire $3,000 as a tax deduction. 

The 10-percent threshold was only 7.5 percent prior to 2013 when it increased. Even so, it remained at 7.5 percent for taxpayers who were age 65 or older for a little while. But as of December 31, 2106, all taxpayers must meet the 10-percent threshold to be able to claim this deduction regardless of age.

The good news is that this percentage does not apply to your total income, but only to your AGI. It is the number arrived at after you take certain above-the-line deductions on the first page of your tax return, reducing your total income. Above-the-line deductions include things like alimony you paid, 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, maybe you earned $60,000, but you paid your ex $16,000 in alimony. Your AGI isn't, therefore, $44,000, not $60,000, and your 10-percent threshold drops to $4,400. 

Your AGI appears on line 37 of Form 1040 before you get around to claiming itemized deductions or the standard deduction for your filing status.

A Tax Deduction vs. a Pre-Tax Salary 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 paystubs if you’re unsure how you’re paying for insurance that's available through your employer. If the deductions for insurance are made before your employer calculates withholding on the balance, you’re using pre-tax dollars.

It isn’t necessarily a bad thing. Paying for health insurance as a pre-tax salary deduction is more advantageous and will probably save you more money than taking the itemized deduction. Pre-tax health benefits reduce your taxable salary, and the income tax, Social Security tax and Medicare tax you must pay are a percentage of that taxable salary. So this employee benefit is effectively triple tax-free when your taxable salary is reduced by the amount of your health insurance premiums. It might even be quadruple tax-free if your state allows for pre-tax health insurance benefits.

The Deduction if You’re Self-Employed

Self-employed persons can take a deduction for health insurance premiums they pay for coverage for themselves and their dependents directly on Form 1040 as an above-the-line adjustment to income.

You can enter the total of what you paid on line 29 on the first page of your tax return. It's 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 means it's not limited by the 10-percent-of-AGI rule — you can claim the entirety of what you spend on premiums, although you can’t add in any uninsured medical costs. 

In Summary 

Employees benefit when health insurance premiums are deducted triple tax-free from their salaries without any of the limitations of the itemized deduction. Self-employed persons can deduct health insurance "above the line" on the first page of their 1040s, which also eliminates the hassle and limitations of itemizing. Other taxpayers can deduct the cost of health insurance as an itemized deduction only if their overall medical and dental expenses exceed 10 percent of their adjusted gross incomes. 

NOTE: Tax laws change periodically, and you should consult with a tax professional for the most up-to-date advice. The information contained in this article is not intended as tax advice and is not a substitute for tax advice.