Taking that healthcare tax deduction

NEW YORK Fri Feb 24, 2012 10:23am EST

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NEW YORK (Reuters) - As medical costs go up and household income lags behind, more people are likely to qualify for healthcare tax deductions.

A recent Census report(here)

shows a decline in median household income; real median household income was $49,445 in 2010, 7.1 percent below its 1999 peak of $53,252.)

Indeed, in 2009 (the latest year for which data is available), healthcare tax deductions were the only itemized deduction that grew, rising nearly 5 percent from the previous year to a total of $79.9 billion, according to Internal Revenue Service data. The amount has probably gone up since then.

To qualify for a healthcare tax deduction, you need to spend more than 7.5 percent of your adjusted gross income on health costs, as only the expenses above that threshold can be deducted. The U.S. Census has reported that real median household income in 2010 was still below its 1999 peak, so the combination of rising costs and lower incomes could produce more qualifying deductions.

If your out-of-pocket medical costs rose last year, or your income fell, it's certainly worth sorting through all your receipts to see if you qualify, even if you never did before.

You might discover that you've been pushed over the limit by a new baby, or simply because you're facing higher deductibles and co-payments in your insurance plan.

"People are cavalier about thinking about medical expenses, because not many people spend over 7.5 percent of income... (on health care), but with incomes reduced, more and more people may qualify," says Bob Meighan, a TurboTax vice president and certified public accountant. "It is time to reevaluate."

Some 10 million taxpayers claim this deduction, for an average of $7,915 each. If you make $100,000 and spend $10,000 on medical care, you'd get a deduction of $2,500, worth $700 in the 28-percent tax bracket.

A LONG LIST

What's included in deductible medical expenses? Actually, quite a lot. Doctor and dentist bills, eye glasses and contact lenses, hearing aids, prescription drugs (including birth-control pills), crutches, transportation to doctors' appointments, and nursing home fees.

Acupuncture appointments, chiropractor visits, stop-smoking programs, and as of last year, breast pumps, too, are deductible. Laser eye surgery, infertility treatments, and service animals are all deductible. And the list goes on. For the full list, see the IRS's Publication 502(here).

If you're married, the deduction covers medical expenses for you and your spouse. If you have dependent children, their expenses go into the tally, too. If you paid for medical care for one of your older kids-up to age 27-that's included, as part of health reform. Those kids don't have to be on your health insurance, or considered dependents, for you to claim the medical costs you paid for them in this deduction.

You may also be able to claim the medical expenses you paid for your elderly parents. To do this, either they need to live with you for the entire year and you need to provide more than half their financial support, or you need to claim them as dependents. The latter is a tougher hurdle on income, but does not require your parents live with you, and would give you additional tax benefits.

"Most people don't claim their elderly parents as dependents because their parents are still living off their own retirement money, but there are lots of situations where the next generation is providing enough support to do so," Smith says.

WHO'S A DEPENDENT?

Generally, that would require your parents to have run through their retirement funds, have income (excluding Social Security) below $3,700, and for you to be providing more than half their financial support during the year.

With the economy tough and family structures changing, "We're getting a lot more questions on things like, 'does my girlfriend qualify or my parent qualify as a dependent?'," says TurboTax's Meighan. "It's a very important area, and it would surprise some people to realize that they have a dependent in their household."

For the health care deduction, the big no-no is double-dipping. If you were reimbursed by your insurance, you can't claim the deduction for the amount you got back.

And if you paid the bill with money in a flexible spending account or health savings account -- which are funded with pre-tax dollars -- you can't count that same bill toward the health-care deduction.

Your health insurance costs generally don't go here either. Most employees pay their portion of it with pre-tax dollars, while for the self-employed, the health-insurance deduction appears as an adjustment to income that is not subject to the 7.5 percent limit.

Some 3.6 million taxpayers claimed that deduction in 2008, reducing their adjusted gross incomes by a collective $21 billion, according to IRS data.

So as you prepare your 2011 taxes, don't forget about last year's medical bills -- they might just save you some cash now.

(Editing by Bernadette Baum and Linda Stern)

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