These days medical expenses are some of the biggest expenses American face. And for a lot of people, there is no way to take a tax deduction for many medical expenses. Or at least, they think there is no way to take the tax deduction.
One suggestion that may be open to you if you have an employer who has set up the plan is a HSA, health savings account. This plan allows you to have money deducted from your paycheck and then build up in a fund during the year. If you have an individual plan, you can make a maximum contribution of $3,450 per year (2018 figure) and if you have a family plan the amount is $6,850. Once funds are deposited into your HSA fund, the account can be used to pay for qualified medical expenses tax-free, even if you no longer have HDHP coverage (high deductible, high premium). The funds in your account roll over automatically each year and remain indefinitely until used. There is no time limit on using the funds.
You can’t deduct the payment of outstanding medical bills once you’ve used up the money in your HSA, there is no way to replenish it after-the-fact. So there are limitations.
If your medical expenses are greater than 7.5% of your adjusted gross income (AGI) and you otherwise qualify to itemize your deductions, you can include the excess over the 7.5% limitation along with your mortgage interest (may be subject to limitation based on the amount of debt), up to $10,000 of your property tax and state tax combined and charitable contributions.
Unfortunately, many people don’t have enough medical expenses to get them over the income threshold and even more will no longer itemize their deductions. They’ll take the standard deduction.
The third way, and my favorite, is to establish a MERP (medical expense reimbursement plan). If you are the business owner, you can only take advantage of a MERP in one of two ways:
- You have a C Corporation, or
- You have a Sole Proprietorship (Schedule C) and your spouse is employed.
An S Corp won’t work. A partnership won’t work. If you’re not married or don’t want to employ your spouse, that won’t work.
Only the entities listed above can have a MERP for the benefit of the owner. Also, if you have a MERP, you must include all full-time employees in the same plan. If you own other businesses, then you’ll need to include those employees in any MERP plan you have.
So, don’t just jump into a MERP without talking to a tax professional who understands your circumstances and is familiar with MERP requirements.
A MERP is a medical expense reimbursement plan that allows the company to reimburse medical expenses, after the fact. If you have the right circumstances, it gives you unlimited write-offs because it’s a reimbursement not a savings account. You don’t have any limitation in the amount you can deduct. Because it comes as a deduction directly against the company’s income, there is no threshold or limitation.
But remember the warnings: You must have the right business structure. If you’re going to use a Schedule C (Sole Prop), you MUST legitimately hire your spouse with regular paychecks, quarterly payroll tax reports and a W-2 at the end of the year. You have to include other full-time employees of that company and any other company that is part of a controlled group, as defined by the IRS.
The form itself is easy. There is a template you can use. It needs to be signed and dated and then you keep it in your records. You will likely need to file an annual tax return for the plan, but it’s a simple tax return.
As is true with most deductions, you’re better off taking a deduction against business income. That’s why the MERP is my favorite of the 3 ways you can write off your medical expenses.