When Can I Deduct Health Insurance Premiums on My Taxes?

In your opinion, which has more perceived value: a partial reimbursement after making a large payment or paying the correct amount upon time of service? Why?

Another way of asking this question is: When do you see a CPA sweat bullets? Answer: When they have to tell a client they owe taxes as opposed to getting a refund.

In my career as a CPA, I have tried many times to explain to clients the concept that overpaying your taxes during the year through withholding taxes or estimated tax payments is not a smart idea economically. After all, and we have all heard this, it is giving the government an interest-free loan. Yet roughly 80% of all tax returns filed every year in the USA are requests for refunds.

Even if you argue that the overpayments are due to errors in withholding directions given by employees to their employers, with a couple of extra seconds of effort, this could be rectified. Clearly, Americans would rather see a refund rather than having to write a check.

Behavioral economic practitioners will explain this phenomenon as a clear illustration of prospect theory. Humans, by and large, are loss-averse when compared to "winning" by a factor of about two to three. To have to owe taxes, even if fairly insignificant, feels multiple times more hurtful when compared to even a small refund.

Refunds are perceived as "winning" at the tax game. To the average taxpayer, the refund says: "See, I won the tax game. I don’t owe as much as the government thinks!" CPAs also get caught up with this "winning" oriented attitude when they proudly tell the client that they are due a refund, as if the CPA’s prowess at preparing returns is the only reason.

However, prospect theory has shown that it is not difficult to educate people to undo the normal tendency to shun losses, i.e., not getting a refund, so vociferously. If that is true, why have I had such a hard time doing similarly with my clients with regards to owing taxes?

Here I believe we have the added hurdle of overcoming not just the "winning" or "losing" money perception, but the perceived foe — in this case, the government. Seems like no one is impervious when it comes to paying the government. Withholding taxes doesn't feel as if one is "paying" the government, as it is money not even seen. It’s deducted before it goes to your pocket, so it doesn't even seem like it belonged to you to begin with. Paying at tax time from the money that you did put in your pocket, that’s a different story.

Withholding taxes first started as a temporary measure during World War II in order to help the government pay for the costly effort. It came with a highly patriotic pitch and was easily endorsed by Americans. Check out Gene Autry’s song, "I Paid My Income Tax Today." The government recognized that what was good for the goose was also good for the gander, and withholding taxes easily became permanent. Prospect theory was understood, at least intuitively, even then.

At what point does itemizing tax deductions become more worthwhile than taking the standard deduction? What tips do you have to make itemizing deductions less intimidating?

This is simple mathematics. If your itemized deductions are greater than your standard deduction, you itemize, since your taxable income will be lower; hence, lower taxes.

For example, the standard deduction for joint tax return filers was $25,100. How many people will have itemized deductions higher than that amount? Well, not too many. In 2018, only a little more than 10% of all tax returns filed were taking the itemized deduction. This was down from 30% in 2017, reflecting the outgrowth of the Tax Cuts and Jobs Act, which significantly raised the standard deduction.

So, you could simply bet with the odds and take the standard deduction without thinking about it, or you could do a little math exercise, particularly wise to do if you own a home with a mortgage.

Here’s what to do. Take your mortgage interest paid for the year, add your charitable contributions, and then add on $10,000, the highest amount allowed for the state income and real estate tax deduction. If that amount is getting you close to the standard deduction — then it pays to go through the motions of completing Schedule A to see if indeed your itemized deductions will dwarf the standard deduction and help you lower your taxes.

As far as fighting the intimidation of going through the motions of itemizing, you can mentally calculate that for every dollar above the standard deduction your itemized deductions take you, you will save around 20 cents for each of those dollars, as based on the national average effective rate in 2019.

Therapy and travel costs associated with medical care are examples of purchases that are eligible for tax deductions. What advice would you give for consumers to better track tax-deductible purchases throughout the year?

Medical expenses are another category of itemized deductions, but they are not for everybody. No, I am not tax profiling; I am simply alerting you to the fact that the medical expense deduction is limited to only the amount of your out-of-pocket medical costs that exceeds 7.5% of your adjusted gross income. To see the benefit of this deduction, you will need to have either some relatively high medical expenses (not covered by insurance) or lower income to overcome the limitation hurdle.

To keep track of these is not an easy task, as you will have to resort to some degree of recordkeeping. I use one credit card specifically for costs that I think are deductible so that at the end of the year I can classify these by category. For example, I use this card only for charitable contributions, medical costs and fancy luxury items that I know are not deductible but where the dollars squandered feel better when charged to the credit card reserved for tax deductions. You can also download a medical deduction spreadsheet for free from Squawkfox.

To keep track of the medical travel miles and costs, you can try TripLog, which is reasonably priced and is great for self-employed individuals. Just keep in mind that the deduction for medical travel is 16 cents per mile. It is much better for entrepreneurs at 57.5 cents per mile.

What major life event(s) should warrant Americans using a tax professional as opposed to a DIY tax preparation service?

There are at least two major life events where the letters CPA become very valuable for the purpose of tax preparation: your first home purchase and the first child, whichever comes first. However, don’t expect the CPA’s tax software to outdo whatever your DIY online favorite can do.

Nope, the CPA’s value here at these milestones is long-term tax and financial planning advisory. You will want to hear what the CPA has to say about retirement planning, insurance and estate strategies, amongst others. The CPA is your best quarterback for these very important areas of your financial life.

Of course, opening your own business and entering a stock option plan at work are also immediate invitations to seek a CPA. Both are highly tax-complex transactions and should only be started with the advice of a CPA.

What is one piece of advice that Americans should take regarding yearly financial and tax planning when it comes to health care?

Wow, a loaded question. Trying to pin it down to just one piece of advice seemed daunting at first. But after a little reflection, it was easy — "buy" the risk.

That means buy insurance to have someone else bear the burden of the cost of the "what if." Buy health insurance, both regular and long-term care, for "what if" you get ill or need long-term rehabilitation.

Buy disability insurance. Your odds of something interfering with your income-producing years are greater than a premature permanent trip to heaven.

Buy catastrophic coverage. I have seen too many families torn apart financially speaking when disaster strikes, and the financial burden falls on extended family members. Many of these policies can be had through employment, often in tax-favorable ways, so check with your HR department at work.

In your opinion, which has more perceived value: a partial reimbursement after making a large payment or paying the correct amount upon time of service? Why?

Ideally, a taxpayer should owe money on April 15. Why? If the taxpayer anticipates a refund, the taxpayer has essentially given a tax-free loan to the government.

At what point does itemizing tax deductions become more worthwhile than taking the standard deduction? What tips do you have to make itemizing deductions less intimidating?

Opting to itemize only makes sense if doing so yields tax savings. By utilizing prepackaged software, securing such deductions is a breeze.

Therapy and travel costs associated with medical care are examples of purchases that are eligible for tax deductions. What advice would you give for consumers to better track tax-deductible purchases throughout the year?

There are many self-help books and articles that provide checklists of deductible expenses. Capitalize upon these resources and keep excellent records. You will be richly rewarded.

What major life event(s) should warrant Americans using a tax professional as opposed to a DIY tax preparation service?

Taxpayers who endure a divorce or death of a loved one should consider retaining the advice of a tax professional.

What is one piece of advice that Americans should take regarding yearly financial and tax planning when it comes to health care?

In general, due to limitations in the code, such expenses will not be deductible on one's tax return (i.e., few taxpayers are eligible for taking these deductions due to the incomes they earn). That being the case, taxpayers should be aware that they will generally bear the full onus of these bills.

What is one piece of advice that Americans should take regarding yearly financial and tax planning when it comes to health care?

The services of a tax professional are advisable for estate planning and for any extraordinary transactions that a taxpayer may encounter. Those services are of an entirely different character than what you find with a DIY tax program. I would use such a program only for routine form preparation and the like.