Benefit

The value or amount that an employer pays for premiums to cover you, your spouse, your dependent, and a child under the age of 27 is not taxable. There is no dollar limit on the amount of coverage you can receive on a tax‐free basis.

Conditions

There are none; as long as you are an employee, your company‐paid coverage is tax free to you. This is so even though the amount of this employee benefit is reported on your Form W‐2.

Planning Tips

If both you and your spouse work and each is entitled to health coverage, compare the medical plans and choose the one that offers the better coverage. If you must contribute toward your coverage, but your spouse does not and can include you, it may be preferable to decline your employer's coverage so you can use your spouse's plan.

If you do not have a group health plan at work but your employer reimburses you for the premiums of individual coverage, the reimbursement may be tax free; see the discussion on Health Reimbursement Arrangements later in this chapter.

Pitfalls

While employer‐paid coverage for spouses is tax free, this treatment does not apply to domestic partners. Employees are taxed on employer‐paid coverage for their domestic partners.

If you are 65 and older and covered by an employer plan of a company with fewer than 20 employees, Medicare is your primary payer. Be sure to apply for Medicare within 3 months before and 3 months after you turn age 65 (7‐month enrollment period) so that you have the right coverage.

Where to Report the Benefit

You do not have to report this tax‐free fringe benefit. Even if your employer reports the value of the coverage on your W‐2 form, this does not change the tax‐free treatment of the benefit to you.

Benefit

If you have low or moderate income, you may qualify for the premium tax credit. It is an advanceable, refundable tax credit for eligible people who purchase coverage through a government health care exchange. The credit amount varies with household income for eligible taxpayers.

You can choose to have the credit paid in advance to your insurance company you've chosen from the exchange, or you can claim all of the credit when you file your tax return for the year. If you choose to have the credit paid in advance, you will have to reconcile on your tax return the amount paid in advance with the actual credit to which you are entitled.

Conditions

To qualify for the credit, all of the following conditions apply:

• You must obtain coverage through a government health care exchange (also called the Marketplace), such as HealthCare.gov.
• You must apply for the credit at the time you purchase your coverage by estimating household income, unless you are waiting until you file your return to claim the credit.
• If your employer offers coverage, it is not affordable to you.
• You are not eligible for a government program (e.g., Medicare, Medicaid, CHIP, or TRICARE).
• If you are married, you must file jointly, unless you are a domestic abuse victim and file separately.
• You are not someone else's dependent.

Planning Tips

If you are 26 or younger, you may obtain coverage through an employer plan of your parent.

If you got married during the year, file a joint return, and one or both of you have received the premium tax credit on an advance basis, there is an alternative way to compute the allowable credit amount given that household income has changed. Under the alternative computation (called the “year of marriage rule”) you may reduce the amount of excess credit, if any, that must be repaid. The computation is complex, but it's illustrated in examples in Reg. §1.36B‐4(b)(5) and in IRS Publication 974.

Plan now for coverage for 2023. Even though the individual mandate has been repealed, the premium tax credit continues to be available for eligible individuals who buy coverage through a government marketplace. Use your 2022 income, increases in the poverty amounts, and an increase in the percentage used to determine whether coverage is unaffordable to make projections for credit eligibility.

Pitfalls

You cannot claim the credit if you buy coverage directly from the insurer. This is so even if the coverage is identical to what is sold through the government Marketplace.

If there is a change during the year in your marital status, number of dependents, or household income that may work to increase or decrease the initial credit amount used on an advanced basis to pay insurance premiums, you'll have to reconcile this when you file your 2022 income tax return. There are limits on what you may be required to repay of the advance premium tax credit (the “subsidy”). This cap is based on modified adjusted gross income (MAGI) as a percentage of the federal poverty level (FPL) (Table 2.1). Table 2.2 shows the limits on the maximum repayment amount.

Where to Claim the Credit

Figure the credit on Form 8962, Premium Tax Credit. If you claimed the credit on an advanced basis when you signed up for coverage through the Marketplace, now determine whether the allowable credit is more or less than the amounts advanced during the year. Report the excess advanced premium tax credit repayment on Schedule 2 of Form 1040 or 1040‐SR. Report the net premium tax credit on Schedule 3 of Form 1040 or 1040‐SR.

Benefit

If you qualify, the government pays a percentage of your health insurance premiums for coverage under any of the following:

• COBRA (Consolidated Omnibus Budget Reconciliation Act of 1986)
• A health insurance program offered to state employees or a comparable program
• A group health plan that is available through the employment of an eligible individual's spouse

The portion of health insurance premiums paid by the federal government is 72.5%. There is no dollar limit on the credit you can claim or any restrictions on claiming the credit because of your income level.

Planning Tips

You can include as part of the credit any distributions taken from a Health Savings Account or Archer Medical Savings Account (discussed later in this chapter) to pay qualified health coverage.

You can claim the credit in advance of filing your tax return and are entitled to it even if you don't owe any taxes. As long as you obtain the proper certification, you pay only your required percentage of health insurance premiums, and the federal government pays the balance.

Of course, you cannot claim a tax credit on your tax return if the credit has been obtained on an advanced basis by means of government payment of your health insurance. The amount of the credit you claim on your tax return is reduced by the amount of the credit you receive in advance.

Pitfalls

Even if you are an eligible individual, not all health insurance qualifies for the credit. Examples of nonqualifying health insurance (in addition to those listed earlier) include:

• Accident and/or disability insurance
• Automobile medical insurance
• Coverage for on‐site medical clinics
• Coverage for only a specified disease or illness
• Coverage under a flexible spending arrangement (FSA)
• Credit‐only insurance
• Hospital indemnity or other fixed indemnity coverage
• Liability insurance or a supplement to liability insurance
• Medicare supplemental insurance (“Medigap”)
• Tricare supplemental insurance (for military personnel and their families)
• Workers' compensation or similar insurance

Check for enrollment requirements. State programs can require eligible individuals to enroll within a reasonable period after becoming qualified and deny enrollment for failure to make timely payments (and can restrict eligibility to state residents).

If you claim the credit, you cannot include the same premiums in determining your itemized medical deduction on Schedule A, your self‐employed health insurance deduction, or tax‐free distributions from any medical or health savings account. What's more, if you claim the premium tax credit for coverage obtained through a government Marketplace, you cannot use the health coverage tax credit; no double benefit is allowed.

Where to Claim the Credit

There are 2 ways to obtain the credit: by registering in advance so that a portion of the credit is applied toward your premiums (register by calling toll free 866‐628‐4282) or by claiming it on your tax return.

You figure the credit on Form 8885, Health Insurance Credit for Eligible Recipients. You claim the credit on Schedule 3 of Form 1040 or 1040‐SR.

Benefit

If you itemize deductions (instead of claiming the standard deduction), you can write off medical expenses that are not covered by insurance, employer payments, or government programs to the extent they exceed 7.5% of adjusted gross income.

There is no dollar limit on what you can deduct for medical expenses once you pass the AGI threshold.

Conditions

To be treated as qualified medical expenses, payments must be for the diagnosis, cure, mitigation, treatment, or prevention of disease, or any treatment that affects a part or function of your body.

Deductible expenses include those paid not only for yourself but also for a spouse and any qualifying dependent (a qualifying child or qualifying relative, as explained in Chapter 1).

Examples of Deductible Medical Expenses

Planning Tips

Payments by credit card are deductible in the year of the charge (not in the year of paying the credit card bill), so year‐end charges for unreimbursed expenses (such as prescription sunglasses) are deductible in the year of the purchase.

If you don't expect your medical expenses to be sufficient to exceed the AGI floor this year, hold off on elective procedures until next year. Then you can effectively bunch expenses (this year's and next year's) into one year to exceed the AGI floor.

Pitfalls

Not every expense of a medical nature is deductible. Here is a listing of instances where no deduction was allowed by the IRS:

• Antiseptic diaper services
• Bottled water purchased to avoid the city's fluoridated water
• Breast augmentation surgery for a male who undergoes sex reassignment surgery
• Burial, cremation, and funeral costs
• Child care so a parent can see a doctor
• Cosmetic surgery unless it is medically necessary (For example, a nose job to improve appearance is not a qualified medical expense, but one done following a car accident to repair a nose broken in the accident is a qualified expense.)
• Dancing lessons
• Ear/body piercing
• Hair transplant
• Health club and gym memberships for maintaining general good health or appearance
• Illegal drugs and controlled substances (e.g., laetrile) in violation of federal law
• In vitro fertilization costs incurred to enable a healthy man to have a woman carry his child
• Marijuana, even if prescribed by a doctor in a state permitting the prescription (it is a controlled substance under federal law, but this could change, so check the Supplement)
• Marriage counseling fees
• Massages recommended by a doctor to relieve stress
• Maternity clothes
• Menstrual supplies (e.g., tampons) (but these costs can be reimbursed by HSAs, FSAs, etc. explained later in this chapter)
• Nicotine patches and gums
• Nutritional supplements, including vitamins, and herbal supplements
• Organ donations (e.g., a kidney)
• Over‐the‐counter medicines without a doctor's prescription (although they can be reimbursed through HSAs, FSAs, and other plans discussed later in this chapter)
• Premiums on policies guaranteeing a specified income each week in the event of hospitalization
• Prescription drugs purchased abroad, such as from Canada (although there is an FSA exception in certain situations)
• Sex change operation
• Special foods or beverage substitutes (in lieu of what is normally consumed)
• Swimming lessons
• Tattooing
• Teeth‐whitening treatment
• Toothpaste
• Umbilical cord blood banking services to treat a disease that might possibly develop in the future
• Veterinary fees (other than for service animals)
• Weight‐loss program to improve general good health or appearance

When figuring the deductible portion of home improvements made for medical reasons, such as a swimming pool used to alleviate a medical condition, only the portion of the cost that does not increase the home's value is deductible. However, the cost of making improvements to accommodate a disability, such as installing ramps or widening doors, usually doesn't add any value to the home and is fully deductible.

Medical expenses are also deductible for purposes of the alternative minimum tax (AMT) to the same extent as for the regular tax.

Where to Claim the Deduction

Itemized medical expenses are reported in the first part of Schedule A of Form 1040 or 1040‐SR. The total of all itemized deductions is then entered on line 12 of Form 1040 or 1040‐SR.

Benefit

Self‐employed individuals and shareholders owning more than 2% of S corporations can deduct all of their health insurance directly from gross income. Thus, the write‐off can be taken even if other deductions are not itemized.

This deduction includes not only payments for normal medical care but also long‐term care insurance. There is no dollar limit on this deduction.

Conditions

To qualify for this write‐off, you and your spouse may not have any employer‐subsidized coverage. This condition applies on a month‐by‐month basis.

Also, the deduction cannot exceed the net earnings from the business in which the medical insurance plan is established. These earnings may not be aggregated with earnings from other businesses. For S corporation shareholders, the deduction cannot be more than wages from the corporation (if this was the business in which the insurance plan was established).

Planning Tips

You can claim the deduction whether you buy the insurance through the business or individually, as long as you meet the conditions explained earlier. If you are an employee of an S corporation owned by your parent and are covered by a company health plan, you are treated the same as your parent: the premiums are taxable income to you, but you can deduct 100% of the premiums as an adjustment to gross income. In effect, you're treated like a self‐employed person even though you are an employee of the corporation.

Premiums for Medicare Part B coverage for a self‐employed individual can qualify for the above‐the‐line deduction. But COBRA coverage does not qualify as eligible coverage for purposes of this above‐the‐line deduction because the insurance isn't under the self‐employed's business (it's a former employer's plan).

If you are paying for your medical insurance, you may wish to combine this with a Health Savings Account (explained later in this chapter).

Pitfalls

The deduction does not offset business expenses. In the case of S corporation shareholders owning more than 2% of the corporation, the shareholder can deduct his or her premiums from gross income only if the corporation pays the premiums or reimburses the shareholder for the premiums and includes the premiums as wages on the shareholder's Form W‐2.

The self‐employed health insurance deduction is a reduction to qualified business income for purposes of the 20% QBI deduction (see Chapter 14).

Where to Claim the Deduction

The self‐employed health insurance deduction is claimed on Schedule 1 of Form 1040 or 1040‐SR (whether or not you itemize other medical expenses).

Benefit

You can deduct a portion of long‐term care insurance premiums as a qualified medical expense (based on your age).

Benefits received under a long‐term care policy generally are treated as tax‐free income (the benefits are an exclusion from income).

Conditions

Since there are 2 benefits—a deduction for the payment of long‐term care insurance premiums and an exclusion from income for benefits received under the policy—different conditions apply for each.

Planning Tips

Since the average annual cost of a nursing home now is $108,405 for a private room ($94,900 for a semiprivate room), you might want to carry long‐term care coverage to pay some or all of this cost if it arises. The younger you are when you purchase the policy, the smaller your annual premiums will be (they are fixed at the time of purchase and generally do not increase thereafter).

Long‐term care insurance may be available as an employee fringe benefit under your company's cafeteria plan. If you opt for this coverage, you are not taxed on this benefit.

If you add a long‐term care rider to a life insurance or annuity contract, the premiums are not deductible when payments for long‐term care are a charge against the cash surrender value of the life insurance policy. If there isn't such a charge, then the premiums for the long‐term care portion are deductible subject to the limitations discussed earlier.

Many states allow more generous deductions or credits, even if you receive no benefit at the federal level. In New York, for example, there is a 20% tax credit, with no age or dollar limitation.

And some states have long‐term care insurance partnerships, which are programs that encourage individuals to buy long‐term care insurance while offering special state benefits. These benefits allow you to keep certain assets while qualifying for Medicaid for long‐term care once you exhaust your insurance coverage. You can find a list of states offering these partnerships from the American Association for Long‐Term Care (www.aaltci.org/long-term-care-insurance/learning-center/long-term-care-insurance-partnership-plans.php).

Commercial annuities can offer a long‐term care rider. Such annuities usually cost from 35% to 50% more than stand‐alone annuities.

Pitfall

Since long‐term care insurance usually pays a fixed dollar amount and, hopefully, you won't need long‐term care for many years to come, it can be difficult to know how much insurance to carry. Consider including a cost‐of‐living rider to adjust your dollar coverage for inflation.

Where to Claim the Deduction and/or Exclusion

The deduction for long‐term care insurance premiums is treated like other deductible medical expenses. Generally, they are included with your other itemized medical expenses (up to your allowable dollar limit). However, if you are self‐employed, you can include this amount with your other medical insurance claimed as part of the self‐employed health insurance deduction, which is an adjustment to gross income.

If you receive benefits under a long‐term care policy that are fully excludable, you do not have to report anything on your return. But if you are limited in what you can exclude (as explained earlier), excess benefits are reported as “other income” on Schedule 1 of Form 1040 or 1040‐SR.

Benefit

Businesses can set up flexible spending accounts (FSAs) to allow employees to pay for expenses not covered by insurance on a pretax basis. At the start of the year employees agree to a salary reduction amount as their contribution to the FSA. These amounts are not treated as taxable compensation and are not subject to Social Security and Medicare (FICA) taxes. Employees then use these amounts any time during the year to pay for medical costs, including health insurance premiums or other expenses not covered by insurance, such as orthodontia and prescription eyeglasses.

For purposes of health FSAs, reimbursable medical expenses include prescription medications and insulin, as well as over‐the‐counter medications (no prescription is necessary), personal protective equipment (PPE) to prevent the spread of COVID‐19, and menstrual products.

Conditions

The plan can set the limits on how much you can commit to the FSA each year up to the dollar limit allowed for the year (e.g., $2,850 for 2022). It may be fixed as a percentage of your compensation (e.g., up to 6%). Ask your plan administrator for details on your contribution limits and the deadline for signing up each year (just because you were in the FSA this year does not automatically cover you for next year; you may be required to complete the same paperwork all over again).

Planning Tips

You can tap into your annual contribution at any time during the year (even before you have fully paid into the FSA).

Your employer can adopt an approved grace period. Usually, the grace period cannot extend past March 15 of the following year. But due to COVID‐19, a plan with a grace period may have allowed all unused amounts from 2021 to be used through December 31, 2022.

Instead of a grace period, the plan may allow for a carryover of unused amounts to the following year. The carryover of unused amounts from 2022 are capped at $570.

An employer can transfer funds in an FSA to an employee's Health Savings Account (HSA). The limit on the transfer is the lesser of the account balance on the date of transfer or on September 21, 2006. This is a one‐time opportunity.

Reservists called to active duty can take penalty‐free withdrawals from their FSAs for any purpose (not just medical).

Pitfalls

FSAs operate on a use‐it‐or‐lose‐it basis subject to the grace period or limited carryover discussed earlier. If you contribute more than your covered medical expenses for the year and cannot use it up in the contribution year or grace period (if applicable) and cannot take advantage of the carryover, you can't get the money back. Don't agree to a salary reduction amount in excess of what you reasonably expect to use for medical expenses.

FSAs cannot pay for any expenses that would not qualify as a deductible medical expense (other than for over‐the‐counter medications and menstrual products). For example, FSAs cannot be used to pay for cosmetic surgery (unless it is medically necessary—for example, to correct a birth defect) or for a breast pump (which is helpful to a nursing mother but does not treat or mitigate a medical condition).

If you leave the job before using up your FSA contributions for the year, you usually have to spend the unused amount within a time fixed by the plan (usually by the end of the month in which the employment ends). And, if you opt for COBRA (see later in this chapter), then FSA funds can continue to be used through the end of the year (and through the grace period if applicable); no additional contributions can be made to the FSA after termination of employment.

Where to Claim the Benefit

Since this benefit is an exclusion from income, you do not have to report anything on your return. Compensation reported on your Form W‐2 is reduced to the extent of your FSA contributions.

However, you are required to account to the FSA administrator in order to receive payments from the plan. For example, you may be asked to submit a paid bill for prescription sunglasses in order to receive reimbursement from the FSA, and the bill must be submitted within a certain period after incurring the expense. Talk to your plan administrator for rules on how to obtain reimbursements from the plan.

Planning Pointers

You must substantiate your premium payments as required by your employer. This may include signing a statement attesting to coverage or providing other proof of coverage.

You are permitted once a year to opt out of the ICHRA if you find that the coverage isn't affordable. You can then obtain coverage through a Marketplace and use the premium tax credit (discussed earlier in this chapter) for premium payments.

Pitfall

You can be reimbursed only for eligible medical expenses (i.e., those that would be deductible by itemizers), assuming the plan allows for reimbursements of expenses other than insurance premiums. You cannot, for example, be reimbursed for vitamins and other health supplements.

Where to Claim the Benefit

Since this benefit is an exclusion from income, you do not have to report anything on your return.

Planning Pointers

You must substantiate your payments as required by your employer. This may include signing a statement attesting to coverage or providing other proof of coverage.

Unused amounts may be carried forward to the next plan year.

Pitfall

Reimbursements cannot be used to pay health insurance premiums.

Where to Claim the Benefit

Since this benefit is an exclusion from income, you do not have to report anything on your return.

Benefit

The value of the reimbursement received from your employer is not includible in gross income. This is so even though it may be reported on your Form W‐2.

Conditions

There are several conditions for the exclusion to apply:

• Your employer must be a “small employer” (fewer than 50 full time/full‐time equivalent employees) and not have any other group health plan.
• You must submit proof to your employer that you obtained health coverage.
• The amount of the annual reimbursement for 2022 is capped at $5,450 for self‐only coverage or $11,050 for family coverage.

Planning Tip

While the Tax Code does not specify that reimbursement can cover an employee's cost under a spouse's plan through the spouse's employer, the IRS suggested in informal advice in 2015 that this could be possible. More IRS guidance is needed on this point.

Pitfalls

You cannot claim a premium tax credit for your coverage paid with QSEHRA reimbursements, even though your income is low enough that you'd otherwise qualify for it. If you claim the credit, the QSEHRA benefit is reduced dollar for dollar.

If you don't have coverage for the full year, the dollar limit for reimbursement is prorated. For example, if you have family coverage from July through December 2022, your exclusion is limited to $5,525 (half of the $11,050 annual limit).

Benefits under a QSEHRA do not have to be given to an employee who has not completed 90 days of service, is under age 25, or is a part‐time or seasonal employee. If you are in any of these categories, check with your employer about reimbursements for your premiums.

Where to Claim the Benefit

Since this benefit is an exclusion from income, you do not have to report anything on your return.

Benefit

If you have a “high‐deductible” health insurance policy (defined in the “Conditions” section), you can contribute to a special savings account. Benefits to HSAs include:

• Contributions within set limits are deductible as an adjustment to gross income (you do not have to itemize deductions to claim this benefit). See Table 2.5 for 2022 limits. The limits for those under age 55 can be indexed for inflation (the limits for 2023 are in the Planning Tips); the additional contribution limit for those age 55 and older remains at $1,000.
• Interest or other earnings in the account are tax deferred.
• Withdrawals used to pay medical costs are tax free.

Conditions

To contribute to an HSA, you must meet 2 conditions:

1. You are not covered by Medicare.
2. You are covered by a high‐deductible health plan (HDHP). Healthcare.gov has a filter to help you identify high‐deductible health plan options on the government Marketplace.

Tax‐Free Withdrawals

Only account distributions used to pay qualified medical expenses are tax free. Qualified medical expenses include:

• Any expense that could be claimed as an itemized medical deduction (see the section earlier in this chapter)
• Child and adult immunizations
• COBRA premiums
• Menstrual products
• Obesity weight‐loss programs
• Over‐the‐counter medications (no prescription is necessary)
• Periodic health evaluations, such as annual physicals
• Personal protective equipment preventing the spread of COVID‐19 (e.g., masks, hand sanitizer, sanitizing wipes)
• Premiums for long‐term care insurance
• Routine prenatal and well‐child care
• Screening services, such as those listed
• Tobacco cessation programs

Examples of Screening Services Treated as Medical Expenses for HSAs

Planning Tips

It is up to you to keep track of medical costs so that you can prove withdrawals from your HSA were used to pay qualified expenses. The financial institution with which you have your account won't ask you for any substantiation on your part. Neither will your employer if the account is set up through your company.

HSAs can be funded by a one‐time transfer by an employer from a flexible spending account (FSA) or by a health reimbursement arrangement (HRA), to an employee's HSA or an IRA rollover. Transfers from FSAs and HRAs are limited (as explained earlier in this chapter). Rollovers from IRAs are not currently taxed.

HSAs can be funded by means of a direct deposit of a tax refund. Be sure to designate whether the refund is being used to fund a 2022 or 2023 contribution where possible.

Funds in the HSA can be used for retirement savings. Since there is no tax on earnings that the account is building up, the healthier you stay (and the less you need to use account funds for medical bills), the more you'll have in retirement to use for any purpose. While the withdrawals will be taxed, there is no penalty on withdrawals for nonmedical purposes once you reach age 65.

Planning ahead for 2023, the contribution limits for HSAs are $3,850 for self‐only coverage and $7,750 for family coverage. The parameters for a high deductible health plan in 2023 are a minimum deductible of $1,500 and maximum out‐of‐pocket limit of $7,500 for self‐only coverage ($3,000 and $15,000 respectively for family coverage).

Pitfalls

If you take withdrawals to pay nonmedical expenses, the distribution is taxed as ordinary income, regardless of your age. In addition, if you are under age 65, you are also subject to a 20% penalty (unless you are disabled). Taxable income treatment and the 20% penalty applies if the IRS levies on the HSA to cover back taxes, even though the withdrawal is involuntary. There is no 20% penalty on distributions because of the account owner's death.

If you have a separate prescription drugs benefit plan that has no deductible (only copayments for each prescription), you cannot be an eligible individual for HSA purposes.

If you receive a retroactive lump sum from Social Security because you begin taking benefits after your full retirement age, keep in mind that you'll also be automatically enrolled in Medicare retroactively. This means that any contributions made to your HSA during that retroactive period are “excess contributions” (contributions for the portion of the year prior to the Medicare coverage are permissible). Excess contributions are subject to a 6% excise tax until the excess amount, plus earnings on it, are withdrawn from the account.

If you inherit an HSA and are not a surviving spouse of the account owner, you must take a complete distribution of the account and include all of the funds in your income. Check to see if you qualify for a deduction for federal estate tax on the HSA (see Chapter 15). If you file an amended return to claim a tax refund, you cannot have the refund deposited directly into your HSA as you can with a refund from an original return. You'll need to receive a paper check from the government (there are no direct deposits for refunds from amended returns) and then make your HSA contribution.

Where to Claim the Benefits

The deduction is figured on Form 8889, Health Savings Accounts (HSAs). The deduction is then claimed on Schedule 1 of Form 1040 or 1040‐SR.

If your employer contributes to an HSA on your behalf, this is a tax‐free fringe benefit; no reporting is required.

Benefit

If you are self‐employed or an employee of a small employer with a “high‐deductible” health insurance policy (defined in “Conditions” section), you can contribute to a special savings account that can be tapped to cover unreimbursed medical expenses. There are several benefits to Archer MSAs:

• Contributions within set limits are deductible (or tax free if made by your employer).
• Interest or other earnings in the account are tax deferred.
• Withdrawals used to cover medical expenses are tax free.

Conditions

You must be self‐employed or an employee of a “small employer” covered by a “high‐deductible” health insurance policy. A small employer is an employer who had on average 50 or fewer employees during either of the 2 preceding calendar years. If the business is new, then the employer is treated as a small employer if it reasonably expects to employ 50 or fewer workers. If a business made contributions to an Archer MSA this year, it can continue to be treated as a small employer as long as it had no more than 200 employees each year after 1996.

A high‐deductible policy is one that falls within certain limits on deductibles and out‐of‐pocket expenses required to be paid (other than premiums) before the policy kicks in. (See Table 2.7.)

You (or your spouse) cannot have any other health plan that is not a high‐deductible plan. But coverage under certain other health plans will not prevent you from being able to fund an Archer MSA. Other coverage you may have in addition to a high‐deductible plan includes insurance covering accidents, disability, dental care, vision care, long‐term care, benefits related to workers' compensation, a specific illness or disease, or a fixed amount per day or other period of hospitalization.

Assuming you meet the conditions for claiming a deduction, the amount is limited to 65% of your annual deductible for self‐only coverage or 75% of your annual deductible for family coverage.

If you have coverage for only part of the year, you must prorate the deduction.

Contributions for 2022 must be made no later than April 18, 2023.

Planning Tips

You can roll over funds in an Archer MSA tax free to a Health Savings Account. This may be advisable because of the extensive availability of financial institutions offering HSAs compared with limited Archer MSA options.

You can fund an Archer MSA for 2022 or 2023 via a direct deposit of your 2022 tax refund. Just provide the IRS with the account information and your refund will be transferred directly to your account.

You can use an Archer MSA to provide retirement income. Money can be withdrawn for any purpose penalty‐free after you attain age 65.

Pitfalls

If you are self‐employed, you cannot contribute more than your net earnings from self‐employment. Thus, if you have a loss year, you cannot fund an Archer MSA.

If you withdraw funds from an Archer MSA for other than medical expenses before attaining age 65, the funds are subject to a 20% penalty unless you are disabled (or die).

Where to Claim the Benefits

The deduction is figured on Form 8853, Archer MSAs and Long‐Term Care Insurance Contracts. The deduction is then claimed on Schedule 1 of Form 1040 or 1040‐SR.

If your employer contributes to an Archer Medical Savings Account on your behalf, this is a tax‐free fringe benefit; no reporting is required.

Benefit

Contributions to an ABLE account are not tax deductible. However, earnings grow on a tax‐deferred basis and withdrawals for qualified disability purposes are tax free.

The maximum contribution amount in 2022 is $16,000 per beneficiary. The contribution limit can be increased under certain circumstances if it's made by the designated beneficiary before 2026. Contributions can also be made by rolling over funds in a 529 plan, subject to the annual contribution limit.

Conditions

An ABLE account must be set up in the state in which the disabled child resides unless that state contracts with another to facilitate such an account. The beneficiary of the ABLE account must be either:

• Receiving Social Security disability payments on account of blindness or a disability that occurred before age 26
• Certified by a doctor that he or she is blind or disabled due to an impairment that began before age 26 and that is expected to result in death or last (or has lasted) for at least 12 months

The beneficiary can have only one ABLE account at a time.

Distributions from an ABLE account are excludable only if used for qualified disability expenses, which include:

• Assistive technology
• Education
• Employment training
• Funeral and burial expenses
• Health
• Housing
• Personal support services
• Prevention and wellness
• Transportation

Planning Tips

Investment choices can be changed up to 2 times per year. And contributions may entitle the beneficiary to claim the retirement savers credit (see Chapter 5).

A family that has been thinking of setting up a supplemental needs trust for a disabled child should consider whether an ABLE account can meet the family's objectives. Discuss the situation with a knowledgeable attorney.

ABLE account programs are active in all but a handful of states. Check the map at the ABLE National Resource Center at www.ablenrc.org/state-review for information on your state. However, you do not have to open an account in your state; there is no residency requirement for having an ABLE account.

Pitfalls

While assets in an ABLE account do not prevent eligibility for Supplemental Support Income (SSI), once the account balance reaches $100,000, SSI benefits are suspended (but not terminated).

A distribution is comprised of a return of contributions (which are not taxed) and a receipt of earnings (which are taxed). This is figured on a pro rata basis. In addition, there is a 10% penalty on the taxable amount of the distribution (regardless of the beneficiary's age).

Where to Claim the Benefit

You do not report contributions you make to an ABLE account on your return (remember, they are not deductible).

Benefits

Under federal law, if you work for a company that regularly employs 20 or more workers and has group health insurance, you are entitled to continue under the employer's group plan even if you leave employment (voluntarily or are laid off for any reason other than gross misconduct) or your hours are reduced below the level entitling you to employer‐paid coverage. This is referred to as COBRA continuation coverage, or simply COBRA. Your state may have its own “mini‐COBRA” law, which may expand your rights (contact your state insurance department for details). Thus, even if the employer has fewer than 20 employees, state law may extend COBRA rights to employees and former employees.

Being eligible for and electing COBRA coverage gives you 2 key benefits:

1. Health insurance at an affordable group rate.
2. A deduction for premium payments if you itemize your medical expenses. (The IRS has not yet ruled on whether you can deduct COBRA coverage as an adjustment to gross income if you are self‐employed.)

You can continue COBRA coverage for up to 18 months or until you become eligible under a new employer's plan, you qualify for Medicare, or you fail to make your COBRA payments (there is usually a 30‐day grace period). The coverage period can be extended to 29 months if you become disabled within the first 60 days of COBRA coverage. Your family can retain COBRA coverage for up to 36 months if their eligibility results from your death.

You usually must pay the full cost of coverage, plus up to 2% as an administrative fee (102% of the premiums). But you enjoy the group term rates, which may be less than what you could purchase on your own. Your payment of premiums under COBRA is a deductible medical expense (explained earlier).

If you are a displaced worker, you may be able to claim a tax credit for your COBRA premiums, as explained earlier in this chapter.

Conditions for Coverage

If your employer is subject to COBRA, you must notify the employer about a qualifying event and opt for coverage within 60 days of that event (no extensions are granted). A qualifying event includes:

• You terminate employment (voluntarily or involuntarily, as long as you are not terminated for fraud or other gross misconduct).
• Your parent has health insurance through his or her employer and you attain the age at which you no longer qualify (generally through age 26).
• Your spouse has health coverage through his or her employer and you divorce your spouse.

Planning Tips

Before opting for COBRA, see if there are less costly health insurance options. For example, if your spouse is working, his or her employer may offer less expensive health coverage. Or you may be able to buy coverage through a professional or trade association or through the government Marketplace that is less expensive than COBRA.

If you obtain COBRA coverage with the federal subsidy, even if the subsidy is taxable to you, there is still a cost savings.

Pitfalls

COBRA may not be less costly than coverage you could obtain on an individual basis. You can reduce your current level of coverage under COBRA, but you can't increase it. For example, if you had dental coverage but now wish to eliminate it (and the expense) under COBRA, you can do so. But if you didn't have dental coverage, you can't add it under COBRA.

COBRA does not apply to long‐term care insurance. You may be able to pick up the long‐term care policy individually when you leave employment, but your employer is not required to offer you this coverage through COBRA.

If you leave employment and are at least 65 years old, Medicare is your primary carrier so apply for coverage. This is so even if you opt for COBRA coverage for medical costs not covered by Medicare.

Where to Claim the Deduction

COBRA payments are treated as a deductible medical expense (see earlier in this chapter).

Benefit

If you are age 65 or older, are under age 65 and disabled for at least 2 years, or have end‐stage renal disease, you are entitled to participate in Medicare. Your monthly premiums (whether paid directly by you or withheld from your Social Security benefits check), as well as your copayments and deductibles under Medicare, are qualified medical expenses that are deductible to the extent your total exceeds 7.5% of adjusted gross income (see the general rules on deducting medical expenses, including medical insurance, discussed earlier in this chapter). You are not taxed on the benefits you receive through Medicare. If you are self‐employed, you can treat your Medicare premiums as self‐employed coverage. This is 100% deductible as an adjustment to gross income; no itemizing is required.

If your Medicare premiums are being withheld from Social Security benefits, the amount of your annual Medicare premiums is reported to you in the description of the amount in box 3 of Form SSA‐1099, Social Security Benefit Statement.

Part A, which covers hospitalization, is free (those who did not work a sufficient number of quarters can pay for this coverage). Part B, which covers doctors' charges and certain other expenses, requires you to pay a monthly premium. The premium is subtracted from your Social Security benefits if you are collecting benefits. Both Part A and Part B have certain copayments or deductibles for your covered medical expenses.

There is a Medicare prescription drug plan called Part D. Once you reach the coverage gap (which used to be called the “donut hole”) of $4,430, the maximum payment for both brand‐name and generic drugs is capped at 25%. After paying $7,050 in covered drug costs in 2022 (referred to as the “catastrophic coverage stage”), co‐payments for additional drugs drop considerably for the rest of the year.

Certain low‐income beneficiaries qualify for additional assistance to pay for prescription drugs in what is called the Extra Help program, which is estimated to be worth about $5,100 per year. To be eligible for partial Extra Help, beneficiaries enrolled in Medicare Part D must have an annual income in 2022 below $20,628 if single or $27,708 if married and not be eligible for any other prescription drug coverage (including outpatient prescription drug coverage through Medicare managed care plans). Income does not include earned income tax credit payments. Beneficiaries cannot have savings and resources (excluding a home, car, personal possessions, and a burial plot) exceeding $15,510 if single or $30,950 if married and living together for Extra Help in paying for prescription drugs. More modest income and asset limits apply for full Extra Help. Details on the Medicare drug program can be found at www.medicare.gov or through the Medicare Rights Center at https://bit.ly/2NxzsZq.

Conditions

To be eligible for free coverage under Part A, you (or your spouse) must have at least 40 quarters of Medicare‐covered employment. If you don't have the necessary number of quarters, you can pay for this coverage.

Part B is available to just about anyone age 65 or older (there are no minimum work requirements).

Part D is available to all Medicare beneficiaries.

Planning Tips

Medicare coverage generally isn't automatic; you must apply for it if you haven't yet applied for Social Security benefits. You should contact your local Social Security office to apply for Medicare 3 months before the date you reach your full retirement age so that coverage can start on time.

If you have been collecting Social Security benefits before your full retirement age (e.g., starting at age 62), you do not have to apply when you near full retirement age; enrollment in Medicare Part A (hospitalization insurance) in this case is automatic and free; however, you must then decide whether to also elect Medicare Part B (health insurance). Alternatively, you can enroll in Medicare Advantage (Part C), which provides the same coverage as Parts A and B (and in most cases Part D as well).

If you opt for traditional fee‐for‐service Medicare (rather than some managed care program within Medicare), you may want to purchase supplemental Medicare insurance (“Medigap” coverage). Medigap premiums are deductible as a qualified medical expense (explained earlier in this chapter).

Pitfalls

If you claim the standard deduction (including the additional amount for being age 65 or older), you cannot deduct your Medicare Part B payments since you do not itemize deductions.

If your modified adjusted gross income in 2020 was above a certain amount for your filing status, you are subject to surcharges on your 2022 Medicare premiums. For example, the “standard” premium for Part B coverage in 2022, the premium paid by most beneficiaries, is $170.10 per month (compared with $148.50 per month on average for 2021). Those who fall within a “hold harmless” definition pay a lower monthly premium for 2022. But Tables 2.8 and 2.9 (one for Part B and one for Part D) show the 2022 surcharges and total premiums for higher‐income taxpayers, which are based on modified adjusted gross income (MAGI) in 2020.

The Medicare surcharges for 2023, based on MAGI for 2021, will be included in the Supplement.

If you wait too long to apply for Medicare Part B, your monthly premium will be increased. To obtain the lowest possible premium, you must apply either within a 7‐month window extending from 3 months before to 4 months after your 65th birthday, or, if still employed and covered at work where employer coverage is your primary coverage (there are more than 20 employees at the company), within 8 months after that ends.

If you did not sign up for Medicare Part D but were eligible to do so, and you do not have other “creditable coverage” (e.g., employer or other coverage that is at least as good as Medicare), you are penalized 1% per month for each month you delay.

Where to Claim the Deduction

You deduct premiums as well as your copayments and deductibles as itemized medical expenses (see earlier in this chapter). You must complete Schedule A and attach it to Form 1040 or 1040‐SR.

Benefit

Advanced age and/or chronic illness may require ongoing daily treatment. Payments for nursing homes, convalescent homes, and sanitariums may be treated as deductible medical expenses. The deduction generally is not limited to the portion covering medical care; it also includes lodging and meals if confinement is primarily for the purpose of medical treatment.

If the main reason for admission is not medical care, you can still treat the portion of monthly fees allocable to medical care as a deductible medical expense. Typically, this applies to fees to continuing care facilities—the portion of the fees for medical care is deductible but the portion covering lodging and meals is not.

Conditions

Admission to the facility must be primarily for medical treatment to deduct all charges and fees. You can prove this by showing that:

• Entry was on or at the direction of a doctor.
• Attendance or treatment at the facility has a direct therapeutic effect on the condition suffered by the patient.
• Attendance at the facility is for the treatment of a specific ailment and not merely for general good health.

Planning Tip

Generally, prepayments for future care are not currently deductible medical expenses. However, you can claim a current deduction if you can show there is a current obligation to pay and you can establish the portion of the prepayment allocated to medical care.

Pitfall

If you claim the standard deduction (including the additional amount for being age 65 or older), you cannot deduct your payments for continuing care facilities or nursing homes since you do not itemize deductions. As a practical matter, however, if you are a resident in such a facility for a full year, the cost will generally result in a large enough medical deduction to warrant itemizing your deductions in lieu of claiming the standard deduction, even with the additional amount for age.

Where to Claim the Benefit

See itemized medical expenses earlier in this chapter.

Benefit

If you own a life insurance policy with cash value and become terminally or chronically ill, you may be able to tap into that cash value on a tax‐free basis to pay medical and other personal expenses.

There are 2 ways in which to use a life insurance policy to provide you with current cash on a tax‐free basis:

1. Tap into the policy's cash surrender value under an accelerated death benefit clause if the policy contains such an option.
2. Sell the policy to a viatical settlement company (a company in the business of buying policies under these conditions).

Conditions

You must be terminally or chronically ill to qualify for the exclusion. You are considered to be terminally ill if a physician certifies that you suffer from an illness or physical condition that is reasonably expected to result in death within 24 months of the date of certification.

You are considered to be chronically ill if a licensed health care practitioner certifies that within the past 12 months you meet either of these conditions:

• You are unable for at least 90 days to perform at least 2 activities of daily living without substantial assistance, due to loss of functional capacity. Activities of daily living include eating, toileting, transferring, bathing, dressing, and continence.
• You require substantial supervision for your safety due to severe cognitive impairment.

Planning Tip

To the extent you use accelerated death benefits for medical expenses, you reap a double tax benefit: The funds are tax‐free income to you, and you can treat the payments you make as deductible medical expenses if you itemize your deductions.

Pitfall

To the extent you use your life insurance policy while you are alive, there is that much less for your beneficiaries after your death. If you have other options to cover your expenses, you might weigh your current needs against your beneficiaries' needs after your death in deciding whether to use accelerated death benefits.

Where to Claim the Benefit

If benefits are fully excludable, they are not reported. However, if a chronically ill person receives benefits in excess of the limit ($390 per day in 2022), such amounts are reported as other income on Schedule 1 of Form 1040 or 1040‐SR.

Benefit

Payments of medical expenses for a deceased spouse or dependent can be deducted as a medical expense in the year they are paid, even if this is before or after the person's death.

A decedent's personal representative (executor, administrator, etc.) has a choice of how to treat medical expenses—as an itemized deduction on the decedent's final income tax return (to the extent provided) or as a deduction on the estate tax return. Of course, if the decedent's estate is too small to require the filing of an estate tax return, there is no real choice; the expenses should automatically be treated as a deduction on the decedent's income tax return.

If the personal representative of a decedent's estate pays medical expenses within one year of death, an election can be made to treat the expenses as if they were paid by the decedent in the year the services were provided rather than the year in which they were paid. This may entitle the personal representative to file an amended return for the decedent for a prior year.

Condition

The decision on when and where to claim the decedent's medical expenses is made by the personal representative—the executor, administrator, or other person empowered by a court to act for the estate. This person can override a decision by a surviving spouse.

Planning Tip

Generally, if the decedent leaves an estate large enough to be subject to estate tax, it usually is preferable to claim the deduction on the estate tax return because the estate tax rate is 40%. What's more, all of the medical expenses can be deducted on the estate tax return; there is no AGI floor for this purpose. Of course, given the federal estate tax exemption of $12.06 million per person in 2022, most people who die in this period will not have any federal estate tax, so the costs of a final illness will probably be deducted on the final income tax return.

Pitfall

If the personal representative opts to deduct medical expenses on the decedent's income tax return, the portion that is not deductible because of the applicable percentage of AGI cannot be claimed on the estate tax return.

Where to Claim the Benefit

If the personal representative opts to deduct eligible medical expenses on the decedent's income tax return, a statement must be attached to the return agreeing not to claim the expenses as a deduction on the decedent's estate tax return.

Benefit

If you claimed the standard deduction, any rebate is fully tax free. If you itemized deductions, the rebate is taxable to you according to the tax benefit rule (the same rule for tax refunds applies to medical insurance rebates so you can use Worksheet 16.1 to figure your taxable amount). Similarly, if you are self‐employed and claimed a deduction for premiums from gross income, the rebate is taxable.

If, under an employer plan, you paid premiums through a salary reduction contribution using pretax dollars, the rebate is treated as additional compensation to you in 2022. If you used after‐tax dollars, the rebate is taxed according to the tax benefit rule.

Where to Report the Rebate

If you determine that the 2021 rebate received in 2022 is taxable, do not amend your 2021 return. Instead report the taxable portion as “other income” on Schedule 1 of your 2022 Form 1040 or 1040‐SR.