When you’re self-employed, you want to find every break imaginable when it comes to paying taxes. So how do you calculate the self-employed health insurance deduction?
Health insurance is one of the most expensive costs for self-employed people, especially if they previously had a job that offered employer-subsidized plans. So when you get a chance to use the amount you paid for insurance as a tax deduction, it’s important to know how to take advantage. This article will tell you everything you need to know about calculating the self-employed health insurance deduction and how it’s reported in different scenarios.
The amount that you can deduct using the self-employed health insurance deduction is up to the full amount that you spent on health insurance premiums during the year. But only if that amount is less than or equal to the net profit that you made during the year.
Health insurance and taxes are two of the most studied topics when it comes to self-employment. For that reason, you can rest assured knowing that everything you read here comes from countless hours of research, IRS guidelines, and years’ worth of hands-on experience dealing with this stuff ourselves.
How do you Calculate Your Self Employed Health Insurance Deduction?
Contrary to what you may think when you’re thinking about the self-employed health insurance deduction, there is no set limit to how much the deduction is. A lot of times when it comes to taxes, people think there are set amounts or percentages that define everything. But that isn’t always the case
For example, as a self-employed person, you might be used to paying both income taxes as well as self-employment taxes. Both of those numbers are set percentages, right? Of course, there are different tax brackets and such, but it’s all just a percentage. But when you go to take the self-employed health insurance deduction, it isn’t a percentage or an amount.
The maximum amount that you can deduct is the full amount that you paid for health insurance premiums. But the deduction cannot exceed the total net profit of how much you brought in as income during the year through your self-employment. And if you lost money during the year, you are unable to deduct anything at all. If that seems a little confusing, let’s run through a detailed example to make it crystal clear.
Self-Employed Health Insurance Example
How is the self-employed health insurance deduction calculated?
It’s a simple calculation that’s based on just two things as mentioned above. First and foremost, the amount that you can potentially deduct is the total amount that you spent on health insurance premiums during the year. This includes standard health insurance, dental insurance, and even long-term care in some cases. Keep in mind that this deduction can be used for your own insurance, your spouse’s, as well as any dependents that are 26 years old or younger.
So for easy math, let’s say your total health insurance premium during the past year was $1,000 per month. This means that at the end of the year you will have paid $12,000 total (12 months x $1,000 per month). The first step is really that simple. But keep this $12,000 in mind as we go a little deeper.
The second part of the equation is how much earned income that you had during the year. Earned income can be described in a few different ways depending on the context that it’s being used. But for self-employed people, just think of it as the total net profit or loss. This means that we’re looking at the total net gain or loss that you earned after taking your gross profits and subtracting your business expenses for the year.
One big thing to keep in mind here is that the health insurance premiums are not classified as a business expense, so this total net profit or loss does not include the health insurance deduction!
So let’s say that during the year, your self-employed business brought in $25,000 in gross sales. Through the year, you had $5,000 in business expenses. This brings your total net gain for the year to $20,000 ($25,000 in sales - $5,000 in expenses). And when it comes to the self-employed health insurance deduction calculation, this is the only other part of the puzzle that you need.
So in this case, you have $20,000 in net profit and $12,000 spent on health insurance premiums during the year. Recall from above that as long as you have more profit than insurance costs, you can deduct the full amount. So in this case, you would be able to deduct the full $12,000 from your income and be left with just $8,000 in taxable income. Easy enough, right?
But let’s say that you had a year that wasn’t quite as good, and you only had a net profit of $10,000 this time. In that case, you would not be able to deduct the full $12,000 because it’s more than your net profit. Here, you’d be able to deduct only $10,000 of the health insurance premiums that you paid. So the other $2,000 would not be tax-deductible in the normal sense, but it could still potentially be claimed as an itemized deduction.
And the last case, what if you had a really bad year and you had a net profit of $0 or you ended up losing money that year? If you have a profit of $0 or you took a net loss one year, you cannot deduct any of that $12,000 you paid in health insurance. If there’s no net profit to deduct the taxable income from, then you can’t use the deduction at all.
With those examples in mind, you should have an idea of how to calculate how much you can deduct based on your situation. Just remember, all you need is the total amount paid in premiums and the total amount of net profit that you’re claiming.
All this talk about claiming this and reporting that, let’s dive in deeper and take a look at how to report this deduction on your taxes.
How do you Report Self Employed Health Insurance Deduction on Taxes?
Any time you’re looking to take a tax deduction you need to make sure that it’s reported correctly on your taxes. If you have your taxes prepared by a professional tax advisor or preparer then you should have nothing to worry about. But many self-employed people choose to take care of their taxes by themselves and file them on their own using the software of their choice.
If that sounds like you then you’ll want to know how to report the self-employed health insurance tax deduction correctly to ensure it’s accounted for and you get the maximum benefit. But since this deduction is not limited to only those who are technically self-employed in the practical sense of the word, it’s important to know how it’s reported depending on how you’re actually employed. Because it will make a difference! Let’s take a look.
Typical Self-Employed People
The most common definition that people think of when they hear the term self-employed is the typical self-employed workers such as sole proprietors and single-member LLC owners. Well, people might not think of it in those exact terms, but this is the person that works for themselves such as an independent contractor, a freelancer, or people who have their own single-person business.
For these self-employed people, it’s important to remember that the self-employed health insurance tax deduction is just that, a tax deduction. It’s not a business expense. Furthermore, it’s a personal tax deduction, not a business deduction (which would be reporting on Schedule C). This means that for self-employed people, it will be a deduction on their own personal income. And for these types of workers, that means reporting the deduction on Schedule one of their Form 1040.
Members of Partnerships
That seems easy enough to remember, right? The self-employed health insurance deduction is just reported on Form 1040 as a deduction on personal income. Well… keep in mind that the rule was only for the typical self-employed people. And that’s why the true definition of self-employed is a bit of a gray area. Because as far as the IRS sees it when it comes to who qualifies for the deduction, that also includes members of a partnership.
For legal partners in a partnership or members of an LLC that are recognized as partners for tax purposes, this deduction is not reported on Form 1040 like it was above. Instead, it needs to be reported on Schedule K-1 of Form 1065. This form, Partner’s Share of Income, Deductions, Credits, etc., is the same type of form as the aforementioned 1040, but for partners. So for partnerships, this deduction is also a personal income tax deduction rather than a business one.
S Corporation Owners
The last situation that we’ll look into how to correctly report this tax deduction to the IRS is for owners/shareholders of S Corporations and other similar small businesses. If you thought it got a little bit weird for partnerships, it could get even more confusing if we go into the nitty-gritty details of how it works with S Corporations. But we’ll keep it a bit lighter and just focus on how the reporting is done.
With S Corporations and similar small businesses, profits and losses of the business are passed through individual tax returns of the owners/shareholders. They’re set up this way so that small businesses don’t have to pay business income tax on top of their own income tax. With that in mind, you can probably start to understand that, yet again, the tax deduction here would be only a personal deduction, not a business write-off. So for owners of an S Corporation, it would get reported on the W-2 wage statement rather than Forms 1040 or 1065.
Taxes can be one of the most confusing parts of any business and especially if you’re self-employed without a dedicated finance department. So if you’re ever concerned about making sure everything gets reported correctly, we always recommend contacting a professional tax advisor!