Business Insurance Premiums are Tax Deductible
Your Business Insurance Premiums as Deductions
Are the premiums you pay for business insurance a deductible expense on your federal tax return? The answer is generally yes. The Internal Revenue Service allows businesses to deduct expenses that are a cost of conducting a trade or business. Because insurance premiums are a cost of operating a business, they can be deducted. The deduction of insurance premiums may provide your business significant tax savings.
IRS Forms and Publications
Small business owners can learn what types of insurance premiums are tax deductible by consulting IRS Publication 535, Business Expenses. Chapter 6 of this publication focuses on insurance. It includes a worksheet that self-employed individuals can use to calculate their deduction for medical and dental insurance premiums.
Two other useful resources are IRS Publication 334, Tax Guide for Small Business, and IRS Publication 15-B, Employer's Tax Guide to Fringe Benefits. Publication 334 is designed for individuals who are self-employed or statutory employees. Publication 15-B is designed to educate employers on the tax treatment of fringe benefits.
Avoid Problems With the IRS
Every year some unscrupulous small business owners try to avoid paying taxes by using various tax evasion schemes. The IRS is aware of these schemes. Its increased vigilance has made the tax filing process more difficult for honest business owners.
The process can be especially difficult for the types of businesses listed below. To avoid problems with the IRS, these businesses should seek a qualified tax professional to help them prepare their returns. A tax professional can ensure that premium deductions are legitimate and have been calculated correctly.
- A Single Member Limited Liability Company or S Corporation Shareholder. Consult a tax professional who knows current IRS rulings and circulars.
- Sole Proprietorship. One of the benefits of operating a business as a sole proprietor is the ability to deduct health insurance premiums on your tax return. Self-employed individuals may deduct premiums they paid for medical, dental, and long-term care insurance for themselves and their family members. The rules are spelled out in Publication 535. Exceptions may apply. Thus, your deduction should be reviewed by a tax professional who understands your situation.
- Separate Entities. Some businesses create separate entities in order to reduce their liability risk. For instance, a company might establish a subsidiary that purchases vehicles and then leases them back to the parent company. Consult a tax professional before you create a new entity. Ask the professional to explain what insurance premiums you can deduct.
Premiums You Can Deduct
The IRS permits the deduction of the "ordinary and necessary cost of insurance" as a business expense as long as the expense is for a trade, business or profession. An "ordinary expense" is one that is common and accepted in your type of business.
An expense is "necessary" if it is helpful and appropriate (but not necessarily indispensable) for your business. Publication 535 lists the following as generally accepted premium deductions:
- Insurance that covers fire, storm, theft, accidents etc. (commercial property insurance)
- Credit insurance that covers losses from business bad debts
- Group hospitalization and medical insurance for employees, including long-term care insurance
- Liability insurance
- Malpractice insurance that covers your personal liability for professional negligence resulting in injury or damage to patients or clients
- Workers' compensation insurance set by state law that covers any claims for bodily injuries or occupational diseases suffered by employees in your business, regardless of fault
- Contributions to a state unemployment insurance fund if they are considered taxes under state law
- Overhead insurance that pays for business overhead expenses you have during long periods of disability caused by your injury or sickness
- Auto insurance and other vehicle insurance that covers vehicles used in your business for liability, damages, and other losses. Note that you can deduct auto insurance premiums only if you use the actual cost method of figuring automobile expense. You cannot deduct auto premiums if you take the standard mileage rate deduction.
- Life insurance covering your officers and employees if you are not directly or indirectly a beneficiary under the contract
- Business interruption insurance that pays for lost profits if your business is shut down due to a fire or other cause
Premiums You Can't Deduct
Some business insurance premiums are not deductible. IRS rules prohibit businesses from deducting the following:
- Amounts paid to set up a self-insured reserve
- Premiums paid for a policy that pays for earnings lost due to sickness or disability
- Certain life insurance and annuity premiums
- Premiums paid on insurance to secure a loan
This is a general list of deductions and exclusions published by the IRS. These deductions may change from year to year and are subject to exceptions. Moreover, the fact that a deduction is described in an IRS publication does not mean that it applies to you.
Premiums are generally deducted in the tax year to which they apply. You cannot deduct premiums you paid in advance. For example, suppose that you purchased a property policy that applies for a three-year term. You cannot deduct the entire premium during the first year the policy is in effect. Rather, you can deduct one-third of the premium in each of the three years.
Edited by Marianne Bonner