New tax law limiting out-of-pocket medical expense deduction makes new planning strategies necessary

Beginning next year, tax deductions for out-of-pocket medical expenses will become more difficult than ever before for individuals. The current limit allows a deduction for expenses exceeding 7.5% of income. The new threshold for 2013 is 10% of income. Fewer individuals will qualify and those that do will find more of their expenses will be not deductible. A taxpayer with a gross income of $100,000 and $10,000 out-of-pocket medical expenses will lose a tax deduction of $2,500.

The only remaining practical tax breaks for out-of-pocket medical expenses are employer-provided health plans that reimburse out-of-pocket expenses (HRAs, FSAs and Cafeteria benefit plans) and Health Savings Accounts.  We suggest that all of these should be included immediately in advance tax planning discussions for individual clients with substantial out-of-pocket medical costs. Because of the “lead time” necessary in setting up and transition to these tax-free benefit plan options, it is not advisable to wait until the end of 2012 to change health plan strategies.