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‘Healthy’ Deduction Trims Tax Fat

Medical expenses can add up — and not all are covered by insurance. Unfortunately, even though these costs loom large in your mind, they may not measure up to what the IRS considers deductible: Only expenditures exceeding 7.5% of your adjusted gross income are allowed.

A Partial Break

Yet self-employed folks do get some relief. There’s a partial deduction — regardless of the 7.5% threshold — for medical insurance premiums of business owners and their spouses and dependents. You can deduct 60% of such premiums paid in the years 1999 through 2001. The deduction is scheduled to increase to 70% for 2002, then 100% in 2003 and beyond.

Who qualifies: self-employed individuals, whether they operate their businesses as sole proprietorships or partnerships; and S-corporation shareholders owning more than 2% of the stock. S corporations are companies, taxed much the same way as partnerships are, that pass profits through to their shareholders.

Above the Line

Since this deduction is not subject to the 7.5% threshold for all other medical expenses, it’s not claimed on Schedule A (where expenses are itemized), but on the front of Form 1040. Known as an "above-the-line adjustment," this deduction is applied in the section where you calculate adjusted gross income. It’s taken the same way you claim write-offs for money stashed in traditional IRAs.

More good news: The self-employed medical-insurance deduction is available even to someone who foregoes itemizing altogether and simply uses the standard deduction. So even if you choose not to itemize, you can still deduct 60% of your 1999 medical insurance premiums up front.

Warning: Don’t count it twice! If you do choose to itemize, don’t forget that you’ve already claimed that proportion of your medical insurance premiums. On the other hand, the remainder of the premium amount might still count as a deductible. However, that depends on your total medical expenses; once you’ve claimed the 60% as an above-the-line deduction, the other 40% is considered an ordinary medical expense, and it should be combined with other valid medical expenses such as physicians’ fees and eyeglasses. The portion of those combined expenses exceeding 7.5% of your adjusted gross income is then deductible.

Writer: Julian Block is a tax attorney in Larchmont, N.Y., and author of "Julian Block’s Tax Avoidance Secrets," an annual guide now in its 13th edition.