MEDICAL DEDUCTIONS FOR LONG-TERM CARE

Tax deductions can ease some of the pain of paying privately for long-term care whether it is provided at home or in a facility. This analysis of federal and Massachusetts tax law may help you develop an appropriate strategy to claiming legitimate deductions on your income tax returns for such costs. Readers should consult with their tax advisors before implementing the strategies outlined below.

I. The Deduction for Medical Expenses

Under the Internal Revenue Code, IRC § 213 (a), taxpayers may deduct actual expenses they have incurred, not compensated by insurance, for medical expenses (provided to the taxpayer, his or her spouse, and dependents) to the extent that they exceed seven and a half percent (7.5%) of reported adjusted gross income. Thus, if John and June file a joint tax return showing adjusted gross income of $50,000 and their family's medical expenses total $15,000, they can deduct $11,250 from their reported income before taking personal exemptions and other deductions.

Gross deductible medical expenses = $15,000

Less 7.5% of adj. grs. income = 3,750

Deduction 1,250

Deductible medical expenses are costs involved with 'diagnosis, cure, mitigation, treatment or prevention of disease.' IRC § 213(d). You can claim medical deductions not just for doctors' and hospital bills but also for medications, health insurance, and even transportation related to such care. Amounts paid for 'qualified long-term care services,' specifically, necessary 'diagnostic, preventive, therapeutic, curing, treating, mitigating and rehabilitative services, maintenance or personal care services which are required by a chronically ill individual, and are provided pursuant to a plan of care prescribed by a licensed health practitioner.' Deductible expenses also include non-prescription equipment, supplies, and diagnostic devices. Over-the-counter medicines are not deductible. Thus, aspirin, even if prescribed, is not deductible because it can be obtained without a physician's prescription.

Patients residing in a long-term care facility may deduct the full cost of that facility, including room and board, as long as they are residing there for 'medical' reasons. IRC Regulation 1.213-1 (e)(1)(v)(a) states that the 'entire cost of institutional care for a person who is mentally ill and unsafe when left alone' qualifies for the deduction. The deduction may even be taken for room and board at an Assisted Living Facility, provided that there are compelling medical reasons for remaining at that facility. See, also, IRC § 7720B(c) which makes deductible 'necessary '¦ preventive, therapeutic, curing, treating, mitigating, and rehabilitative services and maintenance or personal care services' which meet two tests: (a) required by a chronically ill individual and (b) are provided pursuant to a plan of care prescribed by a licensed health care practitioner. See Counts v. Commissioner, 42 Tax Cout 755 (1964). If, however, the principal reason for placement at a nursing home or other facility is not to obtain medical care, then the cost of meals and lodging are not deductible expenses. IRC Regulation 1.213-1(e)(1)(v)(b) and Ball v. Commissioner, T.C. Memo 1978-384, 37 T.C.M. 1473 (1978).

Internal Revenue Publication number 502 lists some of the items, including medical expenses, which are deductible. They include Braille books, artificial teeth, contact lenses, nursing services, wheelchairs, and x-rays. Even special equipment in a home or adaptations are deductible if they are medically justifiable.

An article by New York attorney Sharon Kovacs Gruer in the January, 2005 NAELA News points out that if a claimant 'hires assistance '¦ care must be taken that the appropriate tax filings are made. Although many people consider domestic help 'independent contractors,' if the employer sets the hours and controls the work, the employee may be considered an 'employee' rather than an 'independent contractor.''

Attorney Gruer recognizes that complying with federal tax and Social Security law in contracting with employees adds considerably to the burdens and costs of home-based care ('including but not limited to federal employment eligibility verification for immigration purposes, federal and state tax withholdings, Social Security, Medicare, unemployment insurance, workers' compensation insurance and disability insurance') failure to comply is a crime and, moreover, compliance is essential for claiming the deduction. Some of our clients have found, when paying for at home care, that it is easier to deal with an agency that pays its employees directly and therefore complies with tax, Medicare, and Social Security requirements as well as bonds its employees.

II. Timing the Deduction

The medical deduction may be exceptionally valuable for elders in the same taxable year that they sell highly appreciated assets, such as stocks, or a home purchased years earlier. Carol's retirement income may have been well below the level which necessitated careful tax planning and, therefore, she may not have had to claim deductible medical expenses for years. But in the year that she sells her home to move into an assisted living facility, she may have incurred taxable gains, even after deducting her cost 'basis' in the property and as much as $250,000 exclusion from the sale of a home. The private cost of assisted living or nursing home care may offset much of those taxable gains. We sometimes recommend that the move to such a facility occur early in the same year one sells one's house in order to maximize tax savings.

III. Relatives May Claim the Person as a Dependent and Claim her Medical Deductions

If she does not have to 'shelter' capital gains by claiming significant medical deductions, Carol's allowable deduction may provide a significant tax break to her daughter, Amy, if Amy pays many of Carol's medical bills. The Code, IRC § 152, defines a 'dependent' quite broadly as anyone, not merely a parent, who satisfies the support, relationship, and citizenship or residency tests, namely that the 'dependent' is

'¢ either a member of the taxpayer's household or a relative (including parent, grandparent, stepparent, uncle or aunt, among other classes)

'¢ is either a citizen or a legal resident of the U.S.

'¢ has not filed a joint or single return

Two other tests must be met to claim the deduction for a relative:

'¢ the taxpayer (or a number of relatives) must have provided more than half of the patient's total support during the calendar year, and

'¢ the patient's income, other than Social Security and tax-exempt income, cannot exceed $3,500 annually.

Note that the person claiming the dependent may be eligible if she contributed more than half of the support needs for her mother or if she and her siblings, together, contributed more than 50% of the dependent's support. We have drafted 'family agreements' so that those who have contributed more than 10% of the elder's support can alternate taking the deduction from year to year on their personal returns.

Massachusetts Attorney Ronald H. Surabian, who practices in Saugus, provided the following example in a speech he presented to the National Academy of Elder Law Attorneys. Mary, 85, resides in an assisted living facility, but requires assistance with at least two activities of daily living in order to remain at the facility. Mary pays $4,000 a month in rent, although her income consists of only annual Social Security payments of $14,000 and bond interest which is less than $3,400 a year. Her son, Danny, paid $35,000 to the assisted living facility this year. He and his immediate family also incurred $9,000 in medical expenses, largely for health insurance. Danny and his wife file joint tax returns showing $120,000 a year in adjusted gross income. Mary, as a U.S. citizen whose taxable income, other than Social Security, is less than $3,500, need not file her own tax return. Taking all of her income into consideration, Danny has provided for more than one half of her expenses. Assuming that Danny and his wife's marginal tax rates (federal and state) are respectively 25% and 5%) Danny's tax savings can be computed as follows: Medical Deduction Mary's medical expenses $35,000 Other family med. expenses 9,000* Less 7.5% floor = 9,000 Deduction $35,000 Combined tax rate (30%) $10,500 * Danny's immediate family would not have taken the deduction Savings from Personal Exemptions Federal allowance = $3,300 x 25% = 825 State allowance = $3,200 x 5%= 160

Thus, in this hypothetical, Danny's family would save $11,485 in taxes.

IV. Conclusion

Taken into consideration, such tax practices can lessen the burden for children or nieces and nephews to take care of their loved ones. In some cases, the elder can, in fact, gift assets to their children with an understanding that the children will take care of the elders regardless of what happens next.

DISCLAIMER: This article is intended as general information and not as specific advice on individual matters. Persons wanting individualized advice on such matters should contact an advisor experience in these particular tax issues. To the extent that the article provides information on legal matters, it is based on law in effect in Massachusetts on the date of posting. Laws in other states may differ and the law, in general, may change.