Tax Treatment of Long-Term Care Insurance

Congress wants you to buy long-term care insurance because they know that the federal government and the states cannot protect you. They hope to inspire you to get the protection you need by giving you tax benefits. 

In the we talked about what is long term care insurance. Today we will look at how Congress and California are helping you.

Individuals

 The long-term care insurance offered today is called tax-qualified according to section 7702(B) of the Internal Revenue Code. What this means to you is that if you are filing a tax return with itemized deductions as opposed to standard deduction, then a portion of the premium is tax deductible. The government, however, imposes a limit on the amount an individual deduct called the eligible premium, which is adjusted every year for inflation. In 2010 you are able to deduct up to the following amounts for premium: 

Under age 41:  $330

41 - 50:  $620

51 – 60:  $1,230

61 – 70:  $3,280

Over 70:  $4,110

 The older you are the more you can deduct subject to the 7.5 percent threshold in itemized deductions on your 1040. If you are paying for your spouse, each of you are eligible up to the eligible premium limit

The deduction goes on Schedule B of the 1040 and is subject to the same rules as your other medical expenses and health insurance premium, which means it must exceed the 7.5 percent threshold to deduct your medical and insurance expenses.  This also means that if you are filing a standard deduction without itemizing, you do not have the deduction for long term care insurance.

More importantly, the benefit from a tax-qualified can never be taxed if it is paid as a reimbursement for long-term care expenses or is tax-free up for $250 per day for a per-day policy.

Health Savings Account: If you have a health savings account then you can reimburse yourself for tax qualified long-term care insurance premiums.  This means that the premium up to the eligible premium would be tax free even if the HSA is offered through your employer's cafeteria plan. 

Gift Tax Exclusion: You can give any number of people $13,000 under the gift tax exclusion rule of the Internal Revenue Code.  You can also purchase LTC insurance policies for other family members and still maintain the annual gift tax exclusion. 

Self-employed (sole proprietor): A self-employed individual can deduct 100 percent of his or her LTC premium up to the eligible premium limit without being subject to the 7.5 percent threshold.   Any amount over the 7.5 percent is not deducible as medical expenses. You can include your spouse and dependents and it is not necessary to meet the 7.5 percent of adjusted gross income threshold for them either.

Subchapter S, Partnerships and LLC's: Same tax treatment as self-employed individuals

C corporations: This is where the rubber meets the road and where the government really gives you a tax break.  If you are a corporation business owner you have definite tax advantages. Your corporation can deduct 100 percent of your LTC premium as a business expense.  There is no 7.5 percent threshold to meet and it is not limited to the age based eligible premium.  You can also purchase tax qualified policies for select employees without encountering a discrimination issue.

As a C corporation owner, you have another major benefit. There is no imputed income for the C corporation when the premium is paid by the corporation for the owner or for employees.

CLASS Act

 In 2010 President Barack Obama signed into the law a health reform bill known as the Affordable Care Act.  In the law is the Community Living Assistance and Support Act or the CLASS Act. It was hailed as a fabulous long-term care benefit. Its real benefit is the recognition that there are people who don't prepare for the cost of long-term care, who will procrastinate in obtaining the protection they need until it is too late. It also recognizes that there is a real problem as we age, we may need long term care and that it is very expensive.

Before you get too excited, let's look at the key provisions.

• You have to be an employee to get this benefit.
• You have to pay into the program for five years so there is a five year vesting period.
• Your employer has to provide this plan unless your employer opts out of the program.
• The projected benefit is $50 per day or inflation adjusted $50 per day.

Here's the first rub. The cost of care at the time of the law passed was approximately $200 to $225 per day in the Bay Area and, according to the state Department of Health and Human Services is increasing at 5.5 percent  per year.  If you study any of the major Web sites that provide the cost of care around the country, such as MetLife.com or Genworth Cost of Care Survey or you talk to care facilities in your area,  you will see that there is mismatch here. While $1,500 per month is helpful, unless you have other resources,   your CLASS Act insurance pay won't pay for very much.

Here's the second rub. This is a government program. DHHS could change it its mind, discover it's too costly and make entry as restrictive, as it has done for MediCaid and Medi-Cal. Also, if an insurance company doesn't meet it contractual obligations, you can sue them. You can't sue the U.S. government even if it the Department of Health and Humans Services cancels or changes the program.

What the government is really saying is that YOU have to prepare for this and that it is your responsibility to do so.

Harold Lustig, CLU, ChFC is a financial and estate planner in San Rafael specializing in helping families prepare for long term care, protect assets and transfer wealth. He is president of the California Estate and Elder Planning Center and Managing Member of Lustig Financial Services, LLC. Harold can be reached at 472-1290 or Harold @haroldlustig.net.