LTC Bullet: Are LTC Rider Costs Tax Deductible?
Friday, November 17, 2017
LTC Comment: Guest columnist Shawn Britt addresses the complicated subject of LTCI tax deductibility after the ***news.***
*** LTC CLIPPING: 11/15/2017, “We’re so unprepared for finding an Alzheimer’s treatment,” by Carolyn Y. Johnson, The Washington Post
Quote: “The U.S. health-care system is unprepared to cope with the Alzheimer’s crisis — even if there were a treatment in the near future, according to a new study. If there were a treatment for Alzheimer’s in 2020, the study found that people would have to wait a year and a half for access because of a shortage of specialists and equipment to diagnose and treat the disease. An estimated 2.1 million people could develop dementia while waiting for treatment over the next two decades, researchers found.”
LTC Comment: Five years after the baby boom began following WWII, America woke up to realize we didn’t have enough kindergartens. A mad scramble to build schools ensued. Some things never change. ***
*** LTC CLIPPING: 11/13/2017, “Bill Gates makes $100 million personal investment to fight Alzheimer's,” by Kate Kelland, Reuters
Quote: “Billionaire Microsoft co-founder Bill Gates is to invest $50 million in the Dementia Discovery Fund, a venture capital fund that brings together industry and government to seek treatments for the brain-wasting disease. The investment - a personal one and not part of Gates’ philanthropic Bill & Melinda Gates Foundation - will be followed by another $50 million in start-up ventures working in Alzheimer’s research, Gates said.”
LTC Comment: Bill Gates pursued self-interest, created thousands of jobs, made a ton of money and now he gets the personal satisfaction—self-interest again—of making a huge contribution to the well-being of everyone. I couldn’t ask for a better example of the points I made in last Friday’s “LTC Bullet: The Morality of Hazards” about the downsides of altruism. ***
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LTC BULLET: ARE LTC RIDER COSTS TAX DEDUCTIBLE?
LTC Comment: Shawn Britt, Director,
LTC Initiatives, Advanced Consulting with LTCI carrier
“Clearing up the Myths - Are LTC Rider
Costs Tax Deductible?”
As tax season approaches each year, the consuming question is “Are the costs of long-term care (LTC) riders on life insurance (and annuities) tax deductible? The answer is – generally no. There is material out there that states these costs can be deducted, but it is important to look where the material is coming from, which will generally be from sources that are connected to the limited products that may be able to take such a deduction.
The Old Law
Part of the confusion lies in the old law. At one time, a tax deduction was available for the cost of LTC riders on life insurance in limited circumstances. Prior to January 1, 2010, an IRC §213 tax deduction for medical expenses was allowed on a Modified Endowment Contract (MEC) after meeting the floor percentage of AGI (adjusted gross income) requirement of the time. But keep in mind, the cost of the rider was also considered a taxable distribution (and included a 10% penalty when the insured was under the age of 59½). So, at best, the tax deduction washed out the tax due. On non-MEC policies, no tax deduction was ever allowed.
New Law for LTC Riders on life insurance and annuities
The new law per the Pension Protection Act 2006, effective January 1, 2010, states that an IRC §213 tax deduction for medical expenses is not allowed for the cost of a LTC Rider - if the charge for the LTC rider is deducted from the cash surrender value of the life insurance policy. Since most life insurance policies (and annuities) take LTC Rider charges as a deduction from cash value, taxpayers owning these types of policies will generally not be eligible for an IRC §213 tax deduction. Most LTC linked benefit policies (hybrid policies) also deduct rider charges in this manner.
Are LTC Riders ever tax deductible?
Many whole life companies take the position that the cost of the LTC rider is eligible for an IRC §213 tax deduction once the 10% floor of an individual’s AGI (adjusted gross income) has been met. While not specifically stated in the Pension Protection Act 2006 as allowable, this assumption has been reached since the charges for the LTC rider in whole life policies are taken before premium dollars are placed in the cash value account. The tax code is unclear regarding this position; thus, owners of such policies should consult their tax advisor for guidance.
Are the rules different for Linked Benefit LTC polices?
No, the rules are the same. While these policies are intended to be long-term care sales, please remember that LTC Linked Benefit policies (Hybrids) are still built on a life insurance chassis with LTC riders, so the same life insurance rules apply. If the charges for the LTC riders on the policy are paid from deductions of cash value, then the cost of the riders are clearly not deductible. Life insurance premiums are never tax deductible.
Does the deductibility of LTC premium charges really matter?
Whether the cost of insurance for a LTC rider is deductible may not matter much in the end. Even when an individual owns a policy that allows for an IRC §213 tax deduction of LTC premium, the ability to realize that deduction falls on whether that individual taxpayer first meets the 10% floor of their adjusted gross income (AGI) – a mandatory requirement for individuals - before any IRC §213 tax deduction for medical expenses can be captured.
• Our hypothetical client has an adjusted gross income (AGI) of $80,000.
• To establish the 10% floor, we calculate 10% of $80,000 - which equals $8,000.
• Before any medical expense is tax deductible, this individual must first spend $8,000 in out of pocket medical expenses (not reimbursed by insurance) for which no deduction will apply.
• After spending $8,000 out of pocket for qualifying medical expenses, only non-reimbursed medical expenses in excess of $8,000 will be tax deductible.
Let’s take it a step further.
If that same client has enough in medical expenses to hit the required floor to qualify for the tax deduction, it is likely that he or she is a poor candidate in the first place for approval of LTC coverage and/or the base life insurance policy. Of course, if another family member is the recipient of expensive medical care, then a deduction for the policy might be applicable.
In the end, even if the rider expense is listed as a deduction on the tax return, no actual deduction will be realized unless the required 10% floor is met. This tax deduction may not be in play for many years (if at all) until the taxpayer is elderly and potentially has more extensive medical bills and/or a smaller income.
Ultimately, LTC coverage should be chosen based on client need, not based on a “tax deduction” that may never be realized.
Shawn Britt is a Director with the Nationwide Advanced Sales Team, specializing in long-term care. She can be reached at email@example.com