[Editor's Note: We are currently accepting guest post submissions! We want to hear about your financial successes, failures, insight, expert advice, and more. Submit before March 10, 2021, for Q2 consideration. See our Guest Post Policy for more information. Today's guest post was submitted by Emergency Medicine physician, Dr. Wesley Gaschler. We have no financial relationship.]
A highly beneficial but seldom discussed tax structure for the self-employed physician is the Health Reimbursement Account (HRA). For those who have a family member who contributes to their business, an HRA can be used to deduct personal medical expenses as a business expense. This may be the single largest business tax deduction that a physician qualifies for if they have significant medical expenses. A common circumstance when this may be applicable is for fertility treatments, but it may also be applied to most other out-of-pocket medical expenses.
Medical Expenses Are a Business Tax Deduction Using an HRA
Personal medical expenses are tax-deductible on the individual tax return, however, only for the amount that exceeds 7.5% of the total adjusted income, and only for those who itemize their deductions. This makes personal medical expenses irrelevant for tax purposes in most cases. However, if medical expenses are reimbursed through an HRA, they are deducted as a business expense on Schedule C, bypassing the 7.5% floor. HRA benefits are also not subject to payroll taxes, unlike other strategies where physicians employ their family members.
Reimburse Family Member Employee with an HRA
Self-employed physicians may hire their family members under specific circumstances and reimburse their work by paying for their medical expenses through an HRA. In order for your business to qualify, you must be structured as a sole proprietorship or LLC. For your family member to qualify as your employee they must:
- Provide meaningful services to your business
- If your family member was not available, someone else would have to be paid to provide the same services (or you’d have to do it yourself)
Do You Need a Tax Pro to Administer an HRA?
If you’re anything like me, you think that Turbotax is the greatest tax tool ever created and you also have a distrust of the financial services industry. However, I was concerned that my savvy with Turbotax might be exceeded when I first read about using an HRA for reimbursement of family medical expenses. I contacted a few CPAs and found that they were mostly looking to administer HRA plans as part of a tax advising bundle that cost many thousands of dollars. I was able to find a CPA who offered to administer an HRA as a stand-alone service and they charged $1800. They cited the need to file IRS form 720 on my behalf. I quickly learned that the only reason there was any IRS reporting requirement for this plan was that I wasn’t administering the plan myself.
How to Administer an HRA on Your Own
Though some physicians may choose to use a tax professional, a single employee HRA can be administered on your own. There are no IRS or CMS reporting requirements, though you need to retain adequate documentation in the case of an audit. Even if you decide to hire a tax professional to administer the plan, you and your family member will be required to go through many of the steps on your own.
After searching online, I decided to buy a set of plan documents from a company called Core Documents. The plan type is called “1 employee HRA plan” and the price is currently $199.
Plan Administration logistics:
- Apply for a FEIN or federal employer identification number by completing IRS form SS-4.
- Complete a series of fairly simple documents that are provided by Core Documents to show that you completed a job application process. This includes a written job application, an employment agreement, and an I-9 form. You do not need to submit these forms; keep them for your records. You do not need to complete a W-2 or W-4.
- In the employment agreement, you must describe the nature of the work that your family member completes for the business and the agreed-upon reimbursement rate. You should set a compensation rate based on the experience and qualifications of your family member as well as the complexities of the job performed.
- Keep a written record of the hours worked by your family member and the nature of the work.
- Your family member should set up a separate checking account where the reimbursement of their medical expenses are deposited.
- The amount compensated to your family member for medical expenses is deducted on Schedule C of Form 1040 on line 14. If using TurboTax, the deduction is placed under employee benefits of the self-employment section.
In summary, if your family member significantly contributes to your business, or if they could contribute to your business, and if you have out-of-pocket medical expenses, using a Health Reimbursement Account may be one of the most beneficial tax deductions available to the self-employed physician. This service has typically been provided by CPAs as part of a tax advising bundle, but can feasibly be done by oneself for a fraction of the price for those who prefer a “DIY” approach.
Are you a self-employed physician using an HRA? How do you maximize the tax benefits? Did you DIY or hire a pro to administer? Comment below!