Here’s an end-of-the-year reason to review your long-term care plans: A long-term care insurance premium, or part of it, may be deductible from federal income taxes as a medical expense.
For 2016, the IRS has increased how much of the premium people can deduct by about 2.5%. The cost of insurance for spouses and other dependents qualifies for the deduction in most cases. The IRS also raised the daily amount that long-term care participants can receive tax-free in 2015 to $340. The 2014 daily limit was $330.
Deductible premium better as you get older
At 40, it may not look like much, but it gets better as you get older. Jesse Slome, executive director of the American Association for Long Term Care Insurance, says the deductibility of premiums becomes a really valuable benefit for retirees on a fixed income.
Tax-deduction limits for long-term care premiums
|Age before end of taxable year||2015||2016|
|40 or under||$380||$390|
|41 to 50||$710||$730|
|51 to 60||$1,430||$1,460|
|61 to 70||$3,800||$3,900|
|Older than 70||$4,750||$4,870|
For long-term care insurance to be tax-deductible, you must itemize deductions, and the policy must be “tax-qualified,” which means that it must meet certain standards to qualify for federal income tax advantages. Along with other unreimbursed health care expenses, the cost must exceed 10% of the insured’s adjusted gross income, or 7.5% for taxpayers who are 65 and older. In general, conventional long-term care policies sold before 1997 are qualified and have been grandfathered, even though they may not meet all the standards that newer policies must meet. If you have doubts, contact your state’s insurance department.
Better tax perk for self-employed individuals
The ability to deduct the cost of long-term care insurance is another good reason to start a small business after you retire, even if it is just something very part time, like selling used golf balls online.
That’s because for the self-employed, the rules are different: You can deduct the full eligible premium amounts for yourself, your spouse and dependents as long as you don’t deduct more than your net income. The expenses don’t have to exceed the same 10% (or 7.5%) thresholds, as is the case when individuals deduct long-term care as a medical expense on Schedule A. Bankrate’s story on the tax advantages of long-term care insurance explains in depth how the deduction works for different business structures. If you’re a C Corp, the deduction can be especially attractive.
Hybrids are a different animal
One caveat: If you’ve bought a hybrid long-term care policy — one that combines the benefits of life insurance or an annuity with long-term care — the rules are different. Policy premiums are unlikely to be tax-deductible. But ask when you buy because some insurers do sell hybrid policies with deductible premiums. Slome says there are other tax advantages that can compensate for the lack of deductibility.
“The cash value accumulates tax deferred, but that’s typically a rather small amount, so it doesn’t have a big impact,” Slome says. “The death benefits are received tax-free and the long-term care insurance benefits are also received tax-free.
“A few hybrid polices are created with a long-term care extension rider,” he adds. “For that portion of the premium, there can be some tax deduction.”
Long-term care expensive for someone
Before you dismiss the idea of buying long-term care insurance because you think you don’t need it, consider these findings from Northwestern Mutual’s recent study of the costs, both emotional and financial, of being a long-term care provider to family or friends.
- Among experienced caregivers, 35% estimate that on average 26% of their monthly budget goes toward caring for an aging family member or friend.
- 59% of Americans think caring for 2 adults between the ages of 85 and 90 would be harder work than caring for 2 children, ages 3 and 5.
- 66% anticipate that caregiving would have a significant financial impact, and 38% say they aren’t financially prepared.
Here are some alternatives to long-term care insurance.
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