Tax Treatment of Long-Term Care Insurance

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Long-term care insurance policies sold are either IRS tax-qualified or non-tax-qualified; however, most policies sold today are tax-qualified. Tax-qualified means that the insurance contracts conform to the 1996 Health Insurance Portability and Accountability Act (HIPAA) and to IRS rules. HIPAA rule declared that qualified long-term care insurance must receive the same tax treatment as accident and health insurance in the eyes of the IRS. Long Term Care Insurance policies issued before January 1, 1997, automatically qualify under the new HIPAA rule. They are grandfathered and treated as qualified plans as long as they have been approved by the insurance commissioner of the state in which they are sold in. Most individual policies must receive approval from the state insurance commissioner, while most group policies however do not require this approval. Policies issued on or after January 1, 1997, must meet federal standards to qualify. To be qualified long term care plan, it must adhere to specific regulations established by the National Association of Insurance Commissioners (NAIC). Among the requirements are the following:

  • The policy pays benefits only for qualified LTC services. Qualified services are defined as necessary diagnostic, preventative, therapeutic, treating, mitigating and rehabilitative services, and personal care and maintenance services that are required by a “chronically ill” individual.
  • The services must be provided in line with the plan of care prescribed by a licensed health-care practitioner (the person’s Doctor).
  • The policy must offer buyersthe choice of inflation protectionand non-forfeiture protection, but the buyer can choose not to add on these features to their long term care insurance policy.
  • The policy must provide that both activities of daily living and cognitive impairment are benefit triggers to access the benefits. The long term care insurance policy cannot stipulate a medical necessity trigger.
  • Under an Activities of Daily Living (ADLs) benefittrigger, the long term care insurance policy must pay benefits when the insured is unable to perform at least two of six specified ADLs when certified bya licensed health practitioner that the need for help with the ADLs is expected to continue for at least 90 days. The HIPAA rule standardized the ADLs that are to be specified in a qualified policy (eating, bathing, dressing, toileting, transferring, and maintaining continence).
  • Under a cognitive impairment trigger, coverage begins when the individual has been certified as requiring substantial supervision to protect him or her from threats to health and safety.
  • The policy must be issued as guaranteed renewable or non-cancelable.

  • The policy must include a third-party notification or other measure for lapse protection.

Qualified Long-Term Care Insurance Policies Receive Favorable Tax Treatment. The IRS has clarified the tax treatment of Long Term Care Insurance (LTCI) and, for policy-owners who itemize such as small business owners; it allows a tax deduction for premiums up to a certain limit based on one’s age. A tax-qualified LTCI policy offers favorable tax treatment for premiums paid, out-of-pocket expenses, and benefit payments. However, a non-tax-qualified policy’s premiums do not qualify for a tax deduction. Taxation of Qualified Premiums and Out-of-Pocket Expenses Premiums paid for qualified LTCI policies and out-of-pocket expenses for long-term care are tax deductible as medical expenses to the extent that the taxpayer’s total qualified medical expenses exceed 7.5 percent of his or her annual adjusted gross income (AGI).

The deductibility of qualified LTCI premiums is limited by the age of the taxpayer (as of the end of the year), and these limits are adjusted by the IRS annually for inflation. The following chart shows the amount of Long Term Care Insurance premiums that could have been included as an allowable deductible medical expense in 2008:
Tax Deductibility of Long-Term Care Insurance Premiums Age attained before the end of the taxable year of 2008.