Startups and small business owners are always on the hunt for tax breaks. Every bit of money they can hold onto and plough back into their business is essential – and many self-employed people also have families to care and provide for, so many ask can a business owner deduct medical expenses?
We have the answer for you and it is a complex and complicated process, but the short answer is: YES.
Tax planning is vitally important to know what a business owner can and can’t deduct as business expenses. Medical costs – rising each year – create one of the most income-draining aspects of personal and business.
Despite companies offering health care and medical insurance plans, medical expenses cannot be deducted as business expenses.
The tax laws governing deductions are complex. There are a variety of ways to get tax breaks for medical insurance cover and medical costs, but a business owner and self-employed persons must be familiar with the tax laws – and we’d recommend seeking out a tax specialist before making any decisions on this for yourself and your employees.
We do however, have the insights you need to know how a business owner can deduct medical expenses.
Tips on How to Effectively Deduct Medical Expenses
1. Consult an Expert
Consulting with tax specialists when you first establish your business is something every business owner should invest in to help them to set their tax planning and processes up to best help them down the line to take advantage of the tax breaks available.
2. Create a Business Plan
In fact, your business needs a formal written plan to help guide your business as it develops through the various stages of startup growth. There are many and different laws to understand regarding startups and businesses with or without employees – and how to deduct medical expenses.
For startups and businesses with no employees, the process is fairly straightforward.
What if your startup has employees? A business can pay for medical insurance and medical expenses of employees, but the manner in which those are deductible differ from type to type.
How to Deduct Medical Expenses
1. Options for Businesses with Employees
a. Cover All Expenses
Your business can pay for all medical insurance and medical expenses for employees and then deduct the costs for all your employees. This is very expensive for startups and small businesses and it isn’t a recommended solution.
b. Pay for Medical Insurance Only
The businesses can pay for employees’ medical insurance – but not their medical costs. This is still applicable but it is being phased out by the tax laws and the establishment of Obamacare and Medicaid.
c. Offer Premium Plan
Your business can offer a group plan where you as the employer pays no costs and no medical insurance cover, but you negotiate and arrange with the medical insurance provider for reduced employee rates.
This is called a Premium Only Plan. Your employees pay the medical insurance premiums themselves, but you deduct it from their salaries or wages before it is taxed – and that gives you an additional tax break and for your employees too. This option is fast gaining in popularity.
d. Enlist for HDHP (High Deductible Health Plan) and Health Savings Account (HAS)
You can sign your business and employees up for a high-deductible medical insurance plan and add a Health Savings Account (HAS) that your employees either pay themselves or you as employer takes that on. This is actually the most popular option for startups.
e. Supplement with Flexible Spending Account (FSA)
A business may opt for any of the above-mentioned options and then offer their employees Flexible Spending Account (FSA) within the business’s processes to help employees cover out-of-pocket medical expenses – and even childcare costs.
This reduces the taxable amounts even further for businesses for larger deductible values and greater savings. You see, with a written plan and forward tax planning, a business’ payroll tax and employee compensation costs can reduce a business’ taxable amounts.
2. Steps for Businesses without Employees
For business with no employees, as we have established, have a far simpler process to follow to deduct medical expenses. Business owners of startups and self-employed individuals can save money too, but to score the greatest benefits they need to be on their business’ payroll.
a. Create a Payroll
Don’t draw an income from your business’ Drawings account, but rather create a payroll. If you don’t, you’ll simply forfeit the benefits of the tax breaks – and more worryingly the IRS will penalize you for not taking wages or salaries. Tax planning is critical.
b. Deduct Medical Insurance Premiums
Business owners can deduct medical insurance premiums. They are also allowed to deduct the premiums that were paid by them to provide coverage for their spouses, dependents and their children (up to the age of 27). These are all provided by the Self-Employed Health Insurance Deductions law.
Under the provisions of the Self-Employed Health Insurance Deductions law, business owners can deduct their medical expenses in two ways. Both of these methods work by reducing your Adjusted Gross Income (AGI) through subtracting your medical costs monthly from your earnings. What this does is it reduces the total amount of income that you are taxed on, thereby offering you a tax break.
The Self-Employed Health Insurance Deductions system works by allowing you deduct what you pay for in medical insurance premiums and medical costs – up to the limit of your business’ profit. Your business’ profit can be quickly calculated and defined as your business’ income after your business expenses have been deducted. The way in which you can deduct these medical expenses can be done in two ways: by Itemizing Your Deductions or via the Standard Deductions processes.
c. Itemized Deductions
Itemizing Your Deductions will get you greater tax breaks, but only when your medical deductions add up to more than 10 percent of your Adjusted Gross Income (and this figure was 7.5% until 2019, while 10% is the new threshold figure for 2020 and the future).
It isn’t all plain sailing as the rules stipulating what you can deduct are very strict.
The only deductibles you may use in Itemizing Your Deductions for medical expenses are outlined as:
- Preventive care
- Medical treatments
- Dental and vision care
- Psychologists and psychiatrists
- Prescription medicines
- Appliances (such as eye glasses, contact lenses, false teeth, and hearing aids, etc)
- Travel to and from medical care facilities (including parking fees – and remember to keep all receipts)
d. Standard Deductions
To post your deductions via the Standard Deductions process is straightforward on IRS Form 1040.
e. Fill Out Tax Forms
For Itemizing Your Deductions, here are the guidelines to correctly deducting your medical expenses as a business owner and self-employed individual:
- To fill out the forms correctly to receive the tax breaks from the Self-Employed Health Insurance Deductions, you need to fill out Schedule A to report your medical expenses you paid for during the tax year (only the year of the tax cycle are permitted) onto Line 1 of the form.
- Place your Adjusted Gross Income (AGI) from Form 1040 on Line 2.
- Enter the 10 % (7.5% in 2019) threshold amount of your Adjusted Gross Income on Line 3.
- Enter the difference between your medical expenses and Line 3 (your Adjusted Gross Income) onto Line 4.
The amount on Line 4 must be subtracted from the Adjusted Gross Income (Line 3) to reduce your taxable income for that tax year period.
If this amount (and remember that any other expenses you are including in your Itemizing Your Deductions calculations) is less than your Standard Deductions, then you should not use Itemizing Your Deductions because the taxable amounts will not meet the qualifying requirements for tax breaks.
Simply stick to the Standard Deduction formula in such cases to still gain tax breaks as a business owner for medical expenses.