Can you really deduct tax on your Health insurance premiums? Let’s find out!
One of the most common questions we get is from our customers is whether their life insurance premiums are tax-deductible. It turns out there are many misconceptions when it comes to insurance premiums and their effect on tax payments. In this article, we will help you to understand where there is a connection between the two and if your health insurance premiums are actually tax-deductible.
Understanding Life Insurance
A life insurance policy is a contract that the policyholder enters with an insurance company where the insurance company pays a lump sum upon the death of the policyholder to the dependents.
In the US, life insurance is very popular. In 2018, it was found out that nearly 60% of US citizens are covered by some form of life insurance. The insurance industry is now evaluated over 7 trillion US dollars. The following are the most common life insurance policies covering the American population.
Term Life Insurance: Term life insurance only covers the policyholder for a certain number of years. There is no cash value for the term life insurance once it expires. Term life costs less than universal and whole life insurance.
Permanent Life Insurance: Permanent Life insurance does not have a fixed term, it covers for the policy holder’s lifetime. Permanent Life insurance comes with guaranteed payout and cash value.
Whole Life Insurance: Another permanent life insurance policy, however, there is no option of flexible premiums. The whole life insurance policy has cash value.
Universal Life insurance: Universal Life insurance is permanent life insurance with flexible premiums. Also, it has both cash value and death benefit. Universal Life insurance is costlier than most other life insurance policies.
Group life insurance: Group life insurance is often coupled with employee insurance to expand overall insurance coverage. It is mostly term insurance and doesn’t always offer the most comprehensive cover when compared to other types of life insurance. However, Group Life Insurance is a very affordable way to increase coverage options for employee insurance.
For most Americans, life insurance premiums are a part of their annual expenditure. So having the possibility of saving some of that money through tax deductions is a great thing to hear. However, most are unaware of the intricacies involved.
Are your insurance premiums eligible for tax deductions?
There is no concrete answer to the question because we need to account for many variables here. Let us explain in detail.
1. Employer-Sponsored Health Insurance Plan
employer-sponsored health insurance plan is eligible for all payroll and federal income taxes. The premiums are excluded from the taxable income.
When you look at the way life insurance policies are spread across that American population, employer-sponsored health insurance is the most common among non-elderly adults. The possibility of a tax break explains why it so popular.
However, you need to understand that this may vary based on the type of payroll deductions that you are on.
1.1 Understanding payroll deductions
Payroll deduction is the amount deducted from the employee’s payroll for insurance, taxes, etc by the employer. There are two types of payroll deductions.
Pre-tax deductions: In pre-tax deduction, the deduction will be made from the employee’s account before accounting for any taxes. The pre-tax deduction helps the employee in lowering their overall taxable income.
The employee cannot claim a deduction on their income tax return for all the amount that was included in the pre-tax deduction. This is since the pre-tax deduction already helped you lower your income tax thanks to it not being counted in your gross salary.
Post-tax deduction: In post-tax deduction, the deduction is made from the gross salary o the employee after accounting for taxes.
2. Self-Employed Individuals
Self-employed individuals can write off their insurance premiums as tax deductibles for themselves and their dependants granted that they qualify for the eligibility criteria. This comes as a special tax deduction that is only entitled to the Self-employed.
As we discussed just now, there are eligibility criteria that the self-employed individuals must clear in order to have this advantage.
Must not have any other insurance coverage: The self-employed employed individual must not be covered by any other insurance coverage, like from their employer or their spouse’s employer.
The business must generate income: To write-off the health insurance premiums, you need to prove that your business is generating income. If your business has zero income, or if it’s in a loss, you will not be eligible for the tax deduction. If you have more than one business, you can choose one to be the health insurance sponsor. Also, you cannot combine the incomes of two businesses.
3. Medical Expense Deduction
Medical Expense deduction allows a person to claim medical expenses if the medical bills go beyond a certain percentage of their AGI (Adjusted Gross Income).
The procedure involves itemizing and the claim will be equal to the amount that has was due beyond 7.5% of your AGI. This evaluation is based on the 2020 regulations.
One thing you must keep in mind here is that AGI is not the same as for Gross Income. AGI or Adjusted Gross Income is calculated by making some specific deductions from the gross incomes.
How to know if you are eligible for tax deductions on life insurance
Life insurance premiums can be Eligible for a tax deduction, and we have seen the different scenarios where it just works. However, the process of making it work is quite complex and people are not well aware of the different possibilities they can explore.
In such cases, the best course of action is to get advice from professionals who are in the field of insurance. RH Insurance Agency has been providing top tier insurance services to people who need the best. Contact us to know more about life insurance and tax deductions. We will help you navigate through these murky waters.