Tax Issues With Elder Care

John E. Rich, Jr.
Director & Chair, Tax Department
January 1, 2000

As demographic factors and medical advances increase the life expectancies of the population, employers and members of their workforce are coming under increasing pressure to provide for elderly family members. The purpose of this article is to discuss some employee benefit and tax issues related to care for the elderly.

Employer Sponsored Long-Term Care Insurance

As nursing home care has grown increasingly expensive, some businesses are offering long-term care insurance as an additional employee benefit. Long-term care insurance is an insurance coverage designed to pay for skilled, custodial or intermediate care required by a person with a chronically disabling condition. Beginning in 1997, long-term care insurance became a tax-favored benefit similar to medical insurance. In general, employers who offer what is known as a “qualified long-term care insurance contract” as an employee benefit can deduct the costs of the premiums paid. Similarly, the employees do not include the value of the premium in their income. An insurance policy must meet several requirements set forth in Section 7702B of the Tax Code to be a “qualified long-term care insurance contract.” If employees purchase qualified long-term care policies on their own, the amount paid will be deductible as a medical expense subject to the limitations set forth below. Unfortunately, at the present time, long-term care insurance is not an eligible benefit for pre-tax purchase through a so-called “cafeteria” plan or Section 125 plan.

Claiming A Parent As A Dependent

There are several tax strategies relating to caring for the elderly that business owners and their employees should take into consideration. A parent can be claimed as a taxpayer’s dependent, thus qualifying for a tax exemption, even if the parent lives in a nursing home, if the taxpayer (1) provides more than 50 percent of the parent’s support costs, (2) the parent has income under the exemption amount ($2,750 in 1999), (3) the parent does not file a joint tax return and is a U.S. citizen. In addition to the benefit of a tax exemption, if the parent qualifies as a dependent, medical expenses incurred for the parent can be included with the taxpayer’s own when determining the taxpayer’s yearly medical deduction.

Deduction For Medical And Nursing Home Expenses

Even if a parent does not qualify as a dependent because of the gross income or joint return tests described above, parental medical and nursing home costs paid by a son or daughter can be deducted along with the son or daughter’s medical costs. The Tax Code allows medical and nursing home expenses to be deductible to the extent the expenses exceed 7.5 percent of adjusted gross income. Thus, a married couple filing jointly with AGI of $80,000 can claim medical and long-term care expenses in excess of $6,000 as an itemized deduction.

Medical care must be the principal reason for the nursing home stay in order for the expenses to be deductible. If medical care is the principal reason for the nursing home stay, the entire cost of the stay qualifies as a medical expense, including the cost allocable to food and lodging. If medical care is not the primary reason for the stay, only the portion of the expenses allocable to medical care qualifies as a deductible medical expense and the costs associated with food and lodging are not deductible.

Tax Issues Prior To Entering The Nursing Home

If a home is sold in connection with the nursing home entrance, it is often possible to exclude up to $250,000 ($500,000 for certain married couples) from the gain on the sale. In order to qualify for the $250,000 exclusion, a taxpayer must have owned the home and used it as a principal residence for at least two years out of the five years before the sale. If the seller becomes physically or mentally unable to care for him or herself at any time during the five year period, the two out of five year rule is waived.

Rather than entering an institution, it is often desirable for an elderly person to remain in his or her home with proper in-home care. In order to pay the associated expenses, some taxpayers consider a reverse mortgage loan which will provide a tax-free income stream through borrowing up to the appraised value of the home. The drawback of this type of loan is that repayments are typically due when the principal amount of the loan has been paid out to the taxpayer, when the residence that secures the loan is sold, or the borrower dies or ceases to use the home as a principal residence.

In summary, in the current era of increasing longevity and increasing elder care costs, business owners and their employees need to be aware of the tax favored methods of payment for elder care expenses and the deductions available for these expenses.