LTC Insurance Income Taxation

Transcription

1 LTC Insurance Income Taxation F Educational Purposes Only Not f Use in Sales Situations

2 This publication illustrates the federal income tax treatment of qualified long-term care ( LTC ) insurance under Internal Revenue Code (I.R.C.) 7702B(b). 1 All taxpayers enjoy similar favable tax-free treatment of benefits received from a LTC contract, but the taxation of the premium is different f each type of taxpayer. The next three pages represent the good, the better, and the best tax treatments of premiums paid. The final page provides numerical examples that illustrate the deduction exclusion f each type of taxpayer. A final note LTC contracts do not receive the same tax treatment as disability income contracts. Federal Income Tax Treatment of Qualified LTC Insurance f Individual Taxpayers Good Individual Taxpayers All individuals unless a business is involved in the insurance purchase. Premiums Paid Individual taxpayers generally can deduct part of the premiums paid f LTC coverage insuring themselves, their spouse a dependent (defined in 152). 7702B(a)(4) and 213(d)(1). The part of each premium that is deductible depends on the insured s age at the end of the taxable year and is indexed each year f inflation. 213(d)(10). The deduction is limited to: 2 Age less $ 350 $ 360 Over 40 to 50 $ 660 $ 680 Over 50 to 60 $ 1,310 $ 1,360 Over 60 to 70 $ 3,500 $ 3,640 Over 70 $ 4,370 $ 4,550 This amount ( eligible long-term care premiums, ) is an unreimbursed medical expense. 213(d)(1)(D). Total unreimbursed medical expenses are an itemized deduction on the individual taxpayer s income tax return to the extent that they exceed 10% of adjusted gross income ( AGI ) f the year. 213(a). 4 Most individual taxpayers do not have enough unreimbursed medical expenses to claim this deduction. Taxpayers who do not itemize deductions cannot claim this deduction. Benefits Received The tax treatment of the benefit received depends on the type of LTC contract. If the contract is a reimbursement policy, the entire benefit received is excluded from income as an expense incurred f medical care. 7702B(a)(2) and 104(a)(3). If the contract is a per diem policy, the benefits up to a daily limit are excluded from income. The daily limit is the greater of a prescribed amount ($310 in 2012 and $320 in 2013) the actual unreimbursed costs incurred f LTC services provided f an individual. 7702B(d). 3 1 Unless otherwise indicated, all references to are to the Internal Revenue Code of 1986, as amended. 2 Rev. Proc , I.R.B. 701; and Rev. Proc , I.R.B Id. 4 F taxpayers their spouses who have attained age 65 by the end of years 2013 through 2016, the threshold remains at 7.5% of AGI f the year they reach age 65 and through 2016.

3 Federal Income Tax Treatment of Qualified LTC Insurance f Self-Employed Taxpayers 5 Better Self-Employed Taxpayers Business owners whose participation in the plan is based on status as an employee rather than as a business owner and who is either: Sole propriet, 401(c) and 1402(a); Partner of partnership (includes member of limited liability companies taxed as a partnership), 401(c) and 1402(a); Me-than-2% shareholder of S cpation (includes me than 2% member of limited liability companies taxed as an S cpation), 1372(a). Premiums Paid Self-employed taxpayers generally include the business-paid premiums as income on their individual income tax returns. Self-employed taxpayers generally can deduct part of the premiums paid f LTC coverage insuring themselves, their spouse a dependent (defined in 152) as a trade business expense. 162(l). This is an above-the-line deduction taken on the self-employed taxpayer s individual income tax return as self-employed health insurance. Most self-employed taxpayers are able to claim this deduction. The part of each premium that can be deducted depends on the insured s age at the end of the taxable year and is indexed each year f inflation. 162(l)(2)(C) and 213(d)(10). The deduction is limited to: Age less $ 350 $ 360 Over 40 to 50 $ 660 $ 680 Over 50 to 60 $ 1,310 $ 1,360 Over 60 to 70 $ 3,500 $ 3,640 Over 70 $ 4,370 $ 4,550 This amount ( eligible long-term care premiums ) is deducted to the extent the taxpayer has earned income (defined in 401(c) and 162(l)(5)) from the business providing the coverage. 162(l)(2)(A). The deduction is not available if another employer of the taxpayer the employer of the taxpayer s spouse provides LTC coverage under a subsidized health plan. 162(l)(2)(B). Treatment to the business: A sole propriet repts on the sole propriet s individual income tax return the business income (unreduced by LTC premiums). A partnership treats the payment of LTC premiums as a guaranteed payment deductible to the partnership and taxable to the partner. An S cpation treats the payment of LTC premiums as wages deductible to the cpation to the extent of reasonable compensation and taxable to the employee/ me-than-2% shareholder. Benefits Received The tax treatment of the benefit received depends on the type of LTC contract. If the contract is a reimbursement policy, the entire benefit received is excluded from income as an expense incurred f medical care. 7702B(a)(2) and 104(a)(3). If the contract is a per diem policy, the benefits up to a daily limit are excluded from income. The daily limit is the greater of a prescribed amount ($310 in 2012 and $320 in 2013) the actual unreimbursed costs incurred f LTC services provided f an individual. 7702B(d). 5 The employer must have a plan f this tax treatment to apply. 162(l). F a detailed discussion of plan design and ERISA issues, see LTC Insurance as an Employee Benefit in depth (Using Individual Long-Term Care Insurance Policies as Part of an Employer Sponsed Plan ERISA and Tax Implications) (F.O ).

4 Federal Income Tax Treatment of Qualified LTC Insurance f Employee Taxpayers 6 Best Employee Taxpayers Employer Paid Premiums Employee Paid Premiums Benefits Received Non-owner employee C cpation owner-employee whose participation in the plan is based on status as an employee rather than as a shareholder 2% less of S cpation owner-employee whose participation in the plan is based on status as an employee rather than as a shareholder. 1372(a) Employer-paid premiums f LTC coverage insuring the employee, the employee s spouse the employee s dependents (as defined in 152) are excluded from the employee s income and deducted by the employer to the extent of reasonable compensation. 7702B(a)(3), 106(a) and 162(a); Treas. Reg and (a). F purposes of determining the percentage ownership of an S cpation, an employee is treated as owning stock owned by his spouse, parent, child grandchild, in addition to any stock he actually owns and 318. If, after applying these family attribution rules, an employee owns me than 2% of the S cpation stock, the employee is treated as selfemployed. See treatment f self-employed taxpayers on previous page. If, after applying these attribution rules, an employee owns 2% less of the S cpation stock, the premiums are excluded from the employee s income and deducted by the employer to the extent of reasonable compensation. Premiums paid under a voluntary payroll deduction plan are included in the employee s income. 61(a). The employee can deduct eligible long-term care premiums as an unreimbursed medical expense. 7702B(a)(4) and 213(a) and (d). See treatment f individual taxpayers, two pages pri. If an employer and an employee each contribute a ption of the premium, the ption attributable to the employer contribution is excluded from the employee s income. Treas. Reg The employee s contribution up to the eligible long-term care premiums can be deducted as an unreimbursed medical expense. 7702B(a)(4) and 213(a) and (d). Premiums cannot be paid from a cafeteria plan a flexible spending account. 106(c)(1) and 125(f). The tax treatment of the benefit received depends on the type of LTC contract. If the contract is a reimbursement policy, the entire benefit received is excluded from income as an expense incurred f medical care. 7702B(a)(2) and 105(b). If the contract is a per diem policy, the benefits up to a daily limit are excluded from income. The daily limit is the greater of a prescribed amount ($310 in 2012 and $320 in 2013) the actual unreimbursed costs incurred f LTC services provided f an individual. 7702B(d). 6 The employer must have a plan f this tax treatment to apply. Under the plan, the employer may select certain employees to participate and exclude others. 7702(B) (a) and 106(a). F a detailed discussion of plan design and ERISA issues, see LTC Insurance as an Employee Benefit in depth (Using Individual Long-Term Care Insurance Policies as Part of an Employer Sponsed Plan ERISA and Tax Implications) (F.O ).

5 Examples of the Federal Income Tax Treatment of Qualified LTC Insurance Premiums In 2013, husband and wife, both 55 years old, pay LTC insurance premiums of $5,000 ($2,500 each). Their unreimbursed medical expenses are $4,600. The eligible LTC premiums (based on the age of each spouse) is $2,720 ($1,360 + $1,360). Their adjusted gross income is $70,000. Example 1: The taxpayer status is individual. Taxpayer Status Fmula to Determine Deduction / Exclusion Calculation Deduction / Exclusion Individual (Unreimbursed Medical Expenses Plus Eligible LTC Premiums) Less 10% of Adjusted Gross Income ($4,600 + $2,720) $7,000 = $ 320 deduction (itemized deduction as medical expense) Example 2: The taxpayer status is self-employed, neither husband s employer n wife s employer provides LTC coverage under a subsidized plan. The earned income from the business providing the coverage is $70,000. Self-Employed Lesser of Eligible LTC Premiums Earned Income from the Business Lesser of $2,720 $70,000 = $2,720 deduction (above-the-line deduction as self-employed health insurance) Example 3: The taxpayer status is employee, and the employer pays both premiums. Employee Entire premium paid by Employer $5,000 deduction f Employer; $5,000 exclusion (no income) f Employee Example 4: The taxpayer status is employee. Of the $5,000 total premium, the employer pays half ($2,500), and the employee pays the balance ($2,500) with after-tax dollars. Ption of premium paid by Employer $2,500 deduction f Employer; $2,500 exclusion (no income f Employee) Employee Ption of premium paid by Employee: (Unreimbursed Medical Expenses Plus Eligible LTC Premiums) Less 10% of Adjusted Gross Income ($4,600 + $2,500) $7,000 = (Note: Eligible LTC premiums cannot exceed premiums actually paid). $100 deduction (itemized deduction as medical expense)

6 This publication is not intended as legal tax advice; nonetheless, Treasury Regulations might require the following statements. This infmation was compiled by The Nthwestern Mutual Life Insurance Company. It is intended solely f the infmation and education of Nthwestern Mutual Financial Representatives and adviss with whom they wk. It must not be used as a basis f legal tax advice, and is not intended to be used and cannot be used to avoid any penalties that may be imposed on a taxpayer. Nthwestern Mutual and its Financial Representatives do not give legal tax advice. Taxpayers should seek advice based on their particular circumstances from an independent tax advis. Tax and other planning developments after the iginal date of publication may affect these discussions. To comply with Circular 230 Copyright 2013 by The Nthwestern Mutual (NM) Life Insurance Company, Milwaukee, Wisconsin Nthwestern Mutual Long Term Care Insurance Company, Milwaukee, WI., (long-term care insurance) is a subsidiary of NM (0513)