The end of the year is once again upon us, meaning that it is time for clients to perform their annual end-of-year tax checkup and evaluate whether any year-end action steps could help reduce their tax bill for 2018.
While in past years, the list of year-end action items could usually be generated based on a check-the-box approach, tax reform changed the calculus for many taxpayers this year—and introduced new savings opportunities that many clients may wish to explore. One important change was tax reform’s temporary reduction of the threshold for deduction of medical expenses, an important itemized deduction for many taxpayers who may find it difficult to itemize while tax reform’s individual tax provisions remain in effect.
This year, and this year only, the tax code provision for medical expense deductions can be particularly valuable for some clients—but they need to act now before the new rules expire.
Tax Reform and the Medical Expense Deduction
The 2017 tax reform legislation modified the previously existing medical expense deduction so that, for tax years beginning after Dec. 31, 2016, and ending before Jan. 1, 2019, a more generous 7.5% floor will apply to the medical expense deduction. This means that taxpayers will be entitled to deduct medical expenses to the extent that they exceed 7.5% of adjusted gross income (AGI).
Because this standard is much more generous than the 10% threshold that existed before tax reform was enacted, and that will once again be the rule beginning in 2019, clients may wish to evaluate whether they can take advantage of the new rule.
A simple example can illustrate. A client with AGI that equals $100,000 in 2019 would have to incur $10,000 in medical expenses in order to be able to deduct those expenses. In 2018, the same client with the same income would only have to incur $7,500 in medical expenses to take advantage of the deduction—a dollar figure that is easily reached by many clients.
Action Steps for Clients at Year-End
After 2018, the AGI threshold returns to 10%, meaning that clients who anticipate that they will have medical expenses in the near future could benefit from accelerating any elective care or health-related purchases into 2018. Clients should also be advised as to the wide array of expenses that qualify as “medical expenses” for purposes of the medical expense deduction.
In addition to obvious expenses such as unreimbursed health insurance premiums, medical procedures and Medicare premiums, costs for items such as bandages, dental and vision care and certain travel and meal expenses may be included. Dental insurance and long-term care insurance premiums are also deductible, as are prescription drug costs.
While many clients may fail to realize that they qualify for the medical expense deduction, when health insurance and Medicare premiums are taken into account, it may be easier than anticipated to qualify. For example, a client with annual gross income of $100,000 would only need to spend $626 per month to qualify for the deduction—a feat easily accomplished for clients who are paying their own insurance expenses.
While expenses that count toward the medical expense deduction are far-ranging, the client must also itemize in order to take advantage of the more generous 7.5% threshold — meaning that the sum total of all of his or her itemized deductions must now exceed the high 2018 standard deduction amount, which is $12,000 for a single filer or $24,000 for joint returns. Unless the client’s medical expenses are significant enough to cross both the 7.5% of AGI threshold and the standard deduction hurdle, the benefit will be lost.
For clients close to the line, the “bunching” of variable itemized deductions into a single year could help add value to their itemized deductions. Some clients might consider accelerating charitable deductions into 2018, for example, and should evaluate whether they have deductible state and local taxes or mortgage interest expenses to add into the mix (remembering the new limits tax reform has placed on these deductions).
Clients have only a few short months to determine whether taking advantage of the more generous medical expense deduction makes sense based on their individual circumstances. In many ways, 2018 may be the most valuable year to plan for itemized deductions post-reform, but the clock is ticking on the various strategies that clients can use to cross the standard deduction hurdle.