Long Term Care Insurance For The Sole Proprietor

Special thanks to Genworth Financial.

As a general rule, a qualified long term care insurance policy pur­chased by a company for an employee is income tax deductible to the company and not taxable as income to the employee. IRC §162 and §106(a). If the employee is also the sole proprietor who owns and runs the business, the general rule does not apply.

IRC §77026 says that a qualified long term care insurance contract is an accident and health insurance contract. Premiums paid are considered to be medical care expenses.

A sole proprietor may purchase a qualified long term care insurance contract for himself/herself through the business. The income tax deduction that he/she realizes is limited to the lesser of the pre­mium paid or the eligible premium deduction that varies with age. IRC §213(d). It is taken on line 31 of Form 1040 for the 2004 tax year. The eligible premium deductions available for 2005 are:

 

If the sole proprietor hires his/her spouse as a bona fide employee, the business can pay the long term care insurance premium for this employee. The business (sole proprietor) would be able to deduct the full premium paid without including it in the taxable income of the employee (spouse).

In this scenario, the long term care insurance premiums paid by the business for the employee may also include the employee's spouse and dependents with the same tax results. IRC §105(b) and 106 (a). Therefore, the spouse, as a bona fide employee of the busi­ness, may be covered for long term care insurance paid for by the employer. The employee may include his/her spouse (the sole pro­prietor). The premium for a shared long term care insurance policy covering both husband and wife and paid for by the business, would be fully income tax deductible to the business without caus­ing additional taxable income to the employee or the spouse. Rev. Rul. 71-588 and Technical Advice Memorandum 9409006.¹

For example: John and Mary are husband and wife. They are each age 50. Mary operates her business as a sole proprietor. She has hired John as an employee of the business. The business can pro­vide John with a long term care insurance policy. Since John is an employee and not an owner, the premium for the long term care policy is fully deductible to the business and not taxable as income to John. If John includes his wife, Mary, in the plan, the tax results would be the same. The premium would be fully deductible to the business without generating additional income to John. John elects a shared long term care insurance policy that provides coverage for both husband and wife. The premium for the shared policy is $1,701 per year.² $1,701 would be paid by the business for the contract and would be fully deductible to the business. It would not be taxable to John or Mary. They receive long term care protection paid for by the business and not taxed to them. The business re­ceives a tax deduction against business income.<sup>3

1</sup> Rev. Rul. 71-588 and TAM 9409006 address the issue of the deduction of pay­ments under an accident and health plan for the spouse of a sole proprietor. Long term care insurance is not specifically mentioned. However, IRS Publication 17, Publication 502. and IRC §77026 all state that long term care insurance is treated as a plan of accident and health insurance.

² Based on Long Term Care Privileged Choice Shared Plan, $4,500 monthly maxi­mum benefit, 48 months benefit multiplier, 30 day elimination period, and the pre­ferred health discount.

³ Genworth Financial, its affiliates and representatives do not provide tax advice. The discussion of tax matter in this material is our interpretation of current tax law and is not intended as tax advice. Your clients should consult a tax professional for infor­mation relating to their particular situation.