Health Insurance

How Does a Self-Employed Health Insurance Deduction Work?

How Does a Self-Employed Health Insurance Deduction Work?

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Health insurance premiums are deductible as an ordinary expense for self-employed individuals. Whether you purchase the policy in your name or have your business obtain it, you can deduct health insurance premiums paid for yourself, your spouse, a dependent child or a nondependent child under age 27. You would file these costs on your personal tax return. If you paid health insurance premiums for employees, you would itemize that cost as a business expense.

What type of health insurance is tax-deductible for the self-employed?

A tax deduction is a deduction that lowers a person's (or organization's) liability by lowering their taxable income. Certain expenses incurred during the year, such as health insurance premiums, can be subtracted from the taxpayer's gross income to calculate how much tax is owed.

The Internal Revenue Service (IRS) defines the type of policy premiums you can claim as a self-employed health insurance tax deduction. To qualify for a self-employed health insurance deduction, the IRS states a policy must fall into at least one of the following three categories.

  • Dental insurance
  • Medical insurance
  • Long-term care (LTC) insurance

However, if you have an LTC policy, then you must have specific coverage. If the LTC policy qualifies, you can file a long-term care self-employed health insurance deduction. Note that the amount you’re refunded varies by tax year and the covered person’s age.

Who can claim a self-employed health insurance deduction?

Before you start filling out tax forms, you’ll want to confirm that you and your business are eligible for the self-employed health insurance deduction. To qualify for the deduction, you and your business must:

Meet the definition of self-employed. According to the IRS, you are self-employed if you:

  • Carry on a trade or business as a sole proprietor or an independent contractor.
  • Are a member of a partnership that carries on a trade or business.
  • Are otherwise in business for yourself (including a part-time business).

Show a net profit for the tax year.

  • You must show a net profit, and you may deduct only as much as you earn from the business for which the insurance was set up. (If your health insurance deduction exceeds your net income, you can include the premium costs with your other itemized medical expenses.)

Not be eligible for an employer-sponsored medical or LTC plan.

  • Even if you don’t join, you cannot claim self-employed health premiums for any months you were eligible for an employer plan.

How do I file health insurance costs paid for myself and my family?

Once you confirm you are eligible to file, you'll need to know where to deduct health insurance premiums for self-employed tax purposes.

The most direct way to claim your health insurance premium costs is to apply them as a deduction to your total gross income. When you take these deductions, the result is called your adjusted gross income, or AGI. Basically, your AGI is your gross income (your total earned from salaries or other sources) minus allowable adjustments, such as student loan interest or health savings account (HSA) contributions. In summary:

Gross income - adjustments = AGI

Applying your premiums as an income adjustment provides two benefits:

  • Your total tax liability is based on your AGI. If you use the insurance premiums to lower your AGI, you may have a lower tax debt.
  • You can claim 100% of your eligible health insurance premiums as an income deduction.

If you don't submit all your paid premiums as an income deduction, you can include the remaining costs with your other itemized medical expenses. You would have to do this, for example, if your health insurance premiums exceeded your business income. Keep in mind that if you combine premiums with your other itemized medical costs, you can use only 10% of your total eligible health-related expenses — including premiums — beginning with the 2021 tax year.

Remember, this guidance applies to insurance costs paid for yourself and your family. Whether you itemize or claim the cost as an income adjustment, this deduction is considered a write-off to your personal income taxes, rather than a company expense.

Can I qualify for both the premium deduction and a premium tax credit offered through the Affordable Care Act (ACA)?

The self-employed health insurance deduction and premium tax credit can work together. If you do qualify for both, remember this key rule: Your combined insurance premium deductions and premium credits cannot be more than your total eligible insurance premiums.

Computing these deductions can be a complex process. To help navigate the many options and requirements, the IRS offers worksheets and instructions for two calculation methods — simplified (also called alternative) and iterative. The worksheets are not required but may provide useful information.

Example: This sample is based on a family of four with a starting household income of $82,425 and total insurance premiums of $14,000. In this scenario, the family is eligible for a premium tax credit but took no advance premium payments.

Step 1: Calculate the household income using a premium deduction

Subtracting the $14,000 in premiums from the starting income of $82,425 leaves a household income of $68,425, which is 291% of the federal poverty level (FPL) for a family of four. The 291% FPL translates to a rate of 9.24% for calculating the premium tax credit.

Step 2: Determine the initial premium tax credit based on Step 1

Multiply the household income of $68,425 by 0.0924 for a premium tax credit of $7,678.

Step 3: Calculate the allowable premium deduction based on Steps 1 and 2

Total premiums of $14,000 minus the allowable premium tax credit of $7,678 result in an eligible deduction of $6,322.

Step 4: Calculate the household income based on a premium tax credit

Subtract the result of Step 3 ($6,322) from the original household income of $82,425, for a total household income of $76,103. This is 323% of the FPL for a family of four, which translates to a calculation rate of 9.5%.

Step 5: Calculate the premium tax credit based on Step 4

Multiply the household income of $76,103 by 0.0950, for a premium tax credit of $6,770.

The tax filer's allowable deduction is the amount determined under Step 3, or $6,322, and the premium tax credit is the total per Step 5, or $6,770. The combined total of $13,092 is eligible for filing, as it is less than the original premium amount of $14,000.

How do I file health insurance costs paid for my employees?

If you are self-employed and have a workforce, you can deduct dental and medical insurance premiums, including qualified LTC insurance and HSA contributions, paid on behalf of your staff.

You would itemize these costs as business expenses and file the applicable tax forms with your return. The tax schedule you use depends on your self-employment status. For example, a sole proprietor might file a Schedule C — "Profit or Loss From Business" form.

You can use the IRS self-employed health insurance deduction worksheet to calculate deductible health insurance business expenses. If you had more than one health plan and each was for a different business, remember to use a separate sheet for each trade or business.

For example, you may own two businesses: a roofing business (we'll call that business A) and a printing business (business B).

  • If business A had health insurance plan ABC, complete one worksheet just for business A.
  • If business B had health insurance plan XYZ, complete a second worksheet for business B.

Self-employed health insurance deduction for S corporations

Special tax rules apply to self-employed health insurance deductions for an S corporation. As an S corporation owner, you generally can deduct health insurance premiums paid for shareholder-employees as a business expense. For shareholder-employees who own more than 2% of the corporation, you also must include the cost of those health insurance benefits as wages on the shareholder’s W-2. If the health insurance premiums were ultimately paid by the S corporation and were reported as taxable compensation on the shareholder’s W-2, the shareholder-employee can also claim a tax deduction on their Form 1040.

S corporations and the ACA

The ACA states that S corporations with 50 or more employees must provide group health insurance plans instead of reimbursing employees for individual health coverage. However, the ACA offers an option for S corporations with fewer than 50 full-time employees. Small employers can set up Qualified Small Employer Health Reimbursement Arrangements, or QSEHRAs, which allow the business to reimburse employees' qualified medical costs in lieu of providing a group health plan. The owner can claim the reimbursement costs as a self-employed medical insurance deduction. While QSEHRAs may match the needs of many small employers, they include numerous terms and conditions. When considering options, a business may find that a group plan offers a more simplified approach.

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