Pre-Tax Deductions

For all of you much smarter than I am in the realm of taxes:

Should I have my insurance premiums deducted pre-tax on my income or post-tax?

Doing it pre-tax seems the way to go and from what I’ve read, won’t affect my SS or the like that much.

My main concern is whether or not I’ll end up paying into the IRS come tax time.

Thanks and if this is a no brainer of an answer, well, I’m pretty math illiterate.

Pre-tax. Your decision should be factored into the withholding that comes out of your check…however, whether you owe at the end of the year is based on your entire tax situation.

Pre-tax. That way, you can pay your premium with a whole dollar instead of the $.70 you have left over after taxes. There’s no way to get more money from taxes than you put in, so all taxes are a loss.

Thanks. I figured that, but I’d read a couple of things and thought that I could end up owing more on my taxes if I did it pre-tax than post tax.

Pre-tax is better in most cases.

However, if you’re in a situation where you get something like dividends, you may be able to reduce your tax payment by taking things after-tax. In essence, the extra taxes withheld by choosing after-tax will cover the tax you owe on the dividends. You’d probably need a substantial dividend income to make it worth your while, though.

Are we talking medical insurance? For an employee who is not a shareholder of their company?

Always take it pre-tax. The reason is that medical insurance is only deductible for non-shareholder employees as an itemized deduction, and the first 7.5% of AGI is subtracted from your deductible medical expenses. That means most people wind up with no deduction whatsoever if they try to do it post-tax.

If you’re worried about owing tax in April, just increase the withholding on the paycheck. If a post-tax medical deduction increases your refund, it’s only because the increased taxable income also increased the withholding.

Of course, the answer might be different if you are self-employed in some fashion. And might be different if FSA/MSA/HSA/cafeteria plans are involved

Boy, all those Fortune 500 companies with employee stock plans are in for it big with the IRS! :confused:

I’m sorry, but that makes no sense at all.

The extra taxes withheld if you take it after tax are intended to cover the cost of the insurance, not anything else. If your paycheck is 1,000 dollars, and 100 of that is insurance, and you’re in a 15% tax bracket: if your insurance is post-tax you’re paying 15% on 1,000 dollars, or 150.00. If you take it pre-tax, you’d have 900 in taxable income, so 135.00 in tax withheld.

This is a grossly simplified example, ignoring the complexities of withholding allowances etc., but illustrates that the extra tax withheld covers the income represented by the insurance, not anything extra.

To cover taxes for things like dividends, you need to adjust your withholding allowances and/or have extra money withheld. In the 1,000 paycheck scenario you might take, say, zero deductions vs. 2, or have an extra 50 dollars a pay period withheld. This would be WHICHEVER approach you take for the insurance deductions.

Were you assuming the OP could deduct the insurance premiums, i.e. that it ultimately wouldn’t be taxable income? For the most part, I don’t think medical insurance premiums CAN be deducted. There may be something for self-employed individuals. I admit I haven’t checked on the details.

In any case: one strong argument for doing it pre-tax is that a lot of tax credits etc. are affected by your adjusted gross income (before your Schedule A deductions are removed). So, 100,000 in taxable income, with 10,000 in deductions, behaves a bit differently from 90,000 in taxable income with zero deductions. Even though the basic federal tax hit is the same, you might not be able to take IRA deductions, Roth IRA deductions, your itemized deductions might start to be phased out, you might not be able to take the full child tax credit, etc.

Bottom line: it’s hard to imagine any situation in which insurance would be better paid post-tax.

Not what the OP asked, but some flex spending accounts are pre ALL taxes - as in, your social security hit would be lower as well. Insurance premiums are still subject to social security.

It depends on the type of company and other factors.

One of the big issues I see in my practice is with employees who own more than 2% of an S Corporation. Health insurance is reported and deducted differently for them than a non-shareholder.

Another big issue comes up with non-employees such as sole proprietors and partners.

These probably do not affect the OP so I didn’t go into detail, but I did want to clarify that I was making some assumptions.

Sure there is - it’s called welfare! rimshot

More seriously, there’s the Earned Income Tax Credit, which is for lower-income families and is handled through the federal tax return vs. any kind of welfare agency. The credit can indeed exceed taxes paid.

No - the withholding tables should basically adjust your withholding to reflect the lower taxable income. If your withholding isn’t done correctly (you declare the wrong number of exemptions on your W4 for example), you might have to pay at the end of the year but your net taxes paid (withholding + what you pay on April 15) will overall be lower.

Isn’t this usually deducted on Schedule A? I’m not sure why pre/post-tax is a consideration.

You can - but you can only deduct medical expenses that exceed 7.5% of your Adjusted Gross Income. So if your income is 100,000 a year, your health insurance has to exceed 7,500 a year.

If you spend 700 a month on insurance, that’s 8,400. You can only deduct 900 in that case, leaving you with taxable income of 99,100.

If you do it pretax, your AGI is 91,600 and your taxable income is 91,600.

So you’re taxed on 7,500 less income.

Cite: http://www.irs.gov/taxtopics/tc502.html

I don’t know if employer health insurance is ever taken post-tax any more but if it is, the odds of that being a better choice are vanishingly small.

Getting into things like retirement money, the picture isn’t as clear, but that’s not what this thread is about.

MZ pointed out the 7.5% threshold but didn’t mention that fact that alot of people don’t even itemize at all.

Let’s be clear…the advice above is to have more taxes come out of your weekly check so that you don’t owe and maybe get them back on April 15. Not particularly good advice IMHO.

I understand how the Sch. A medical deduction works.

How would you do a pretax medical insurance deduction? If it’s through an employer, you just tell your employer that you want it removed from your Box 1 taxable income and placed in Box 12 or 14? It seems to be taxable income though.

Self-employed people get an adjustment on the 1040.

Yes, I think that was basically what RealityChuck was getting at, though the method suggested wouldn’t work at all.

I disagree on having extra withheld, if you know you’re likely to owe.

For one thing, if you’re too under-withheld due to outside income, other taxes due, or incorrect withholding rates, you could pay a penalty.

For another, if you’re not paying attention, you might not have enough cash put aside to pay the tax bill in April and that can be painful.

Best, overall, to periodically take a hard look at your numbers and tweak your withholding as appropriate to reduce the amount owed or reduce the amount of refund. You don’t want to have to write a big check - and while that refund money is nice, why should the government have the use of your money all year.

For someone with extra income (like stock dividends), or extra tax burden (like when we had a nanny and had to pay her social security etc.), it’s not a bad idea to bump your withholding as appropriate (or to keep a close eye and file quarterly estimated taxes).

In an ideal world, you’d wind up owing Uncle Sam a little money in April, but I know it’s nearly impossible to figure the withholding right.

Your employer (you if you are self-employed) has to offer either a Health Savings Account (HSA) or a flexible spending account (FSA).

You don’t really do the deduction at all. I just checked mine from last year, and found that Box 12 shows 3 lines:
C: taxable group term life
D: pretax 401(k) deferrals
AA: After-tax 401(k).

I have a difference between my taxable salary and my social security salary (box 1 and box 3), which reflects my flex spending money and (I think) my health insurance premiums. The difference is a little more than those two figures, however.

Anyway - for regular tax, it’s basically as if the insurance payment never happened.