Two nouns, “insurance” and “contributions,” seem to be causing uncommon amounts of confusion about tax deductions this month: Are they deductible sometimes? Always? Never? And if they are deductible, where the #^%*! does it go on the forms? To answer these queries, we have to look at the qualifying adjective and consider exactly what sort of insurance or contribution is involved.

More Choices than Dim Sum

I’m no insurance expert, but I can think of at least 20 types of insurance. Without looking—and considering only commonly-used individual tax forms—I can think of at least seven different places where some sort of insurance might be deducted.

Life insurance that develops a cash value over time is never deductible. Neither is my dog’s health insurance. Most other types of insurance may or may not be deductible, depending on the circumstances.

Other types of insurance are specific to businesses—real ones, with business premises, employees and products. These would include coverage for workers’ compensation, product liability, business interruption, general liability, and property loss. The tax deductibility of these is both straightforward and obvious, falling into the broad category of “ordinary and necessary” business expenses. Many individual PerformInk readers are paid as independent contractors. This self-employment constitutes running a business when it is tax filing time. If they had the types of insurance larger businesses do, they would be equally entitled to deduct the cost of that coverage; few need that insurance, though, and fewer buy it. Much of the coverage self-employed individuals buy is more personal in nature. And any time “personal” shows up in a tax discussion, you know there are speed bumps ahead.

Employer, Employee or Both?

Employers can provide certain types of insurance for their employees as nontaxable fringe benefits. Translated, this means the employer can deduct the cost of the insurance as a business expense, but that the value of that insurance is not income to the employee. The most common of these is health insurance for the employee and perhaps his family, in all its various mutations: HMOs, PPOs, vision, dental, long-term care and so on. Term life insurance and disability coverage are also frequently seen. A self-employed person can deduct as a business expense the cost of providing these benefits for his employees, but not the cost of providing it for himself.

Yes, that stinks, but that’s just the way it is. There is a semi-exception for health insurance of self-employed individuals. A special rule has long made it partially deductible, slowly increasing until in 2003 it became fully deductible. Unlike other business expenses, the cost of health insurance is deductible only for income tax purposes and not for self-employment tax. And it is only deductible to the extent you have a profit from self-employment before the deduction. Have a loss? Go to Schedule A, and include the premiums there with all your other medical expenses and maybe, if all the medical stuff adds up to more than 7.5 percent of your income, you will save some taxes. Maybe.

Divide and Flow

Commonly, you have to consider what specific assets or risks are being insured, as well as the type of insurance. Are these business/investment assets or risks? Car insurance might cover the delivery van, or the owner’s Porsche. Someone might trip on an extension cord at my office, or at my home. In each case, one is business and one is not. When a single policy covers both, the costs must be allocated. For example, I own and live in a three-apartment building. As a landlord, I deduct the part of my property and liability insurance that relates to the rental apartments; coverage of my own apartment is not deductible. But if you had a qualifying home office, the portion of your homeowner’s or renter’s insurance applicable to that would be deductible. Similarly, your automobile insurance is part of the overall cost of operating the car. To the extent of your business use (and provided you’re basing it on actual costs instead of the IRS rate), you have a deduction. And each of these examples involves at least two tax forms.

Giving It Away

We are all taught that it is right, or virtuous, or holy to help those less fortunate than us, and to support those causes we believe to be right. But doing the right thing is not necessarily tax deductible. As is often the case in tax matters, restrictions in this area make more sense if we consider “why” as well as “what.”

Political contributions are not deductible, on the grounds that it might lead to influence-peddling. Right. That really worked. Advocacy groups (like the American Civil Liberties Union) are treated as political, so that they cannot be used to launder political contributions.

Not all charitable contributions are deductible. They must be made to an organized charity, not to an individual. This is partly to ensure accountability, to make certain that funds are appropriately used. It also eliminates any ambiguity as to when a gift is charitably motivated and when it is just Christmas. And it must be to an American charity. That rule involves both chauvinism and accountability, as the IRS has no way to oversee foreign organizations. Bigger overseas charities generally have a U.S. affiliate through which they funnel funds, such as the Royal Shakespeare Company America, Inc., or the American Friends of Ben-Gurion University.

Last, contributions to units of government—again, American only—are deductible. This may seem odd, since you probably think more about getting grants from the government than giving to it. Contributing to museums or universities makes perfect sense, however, and many of them are run by the government. And of course, there is the occasional eccentric who leaves his estate to the federal government to try to reduce the national debt.

And to Get Something Free

For me, a deductible business expense is giving away free copies of my “Checklist of Potentially Deductible Items” for those in the performing arts. Just call, write or e-mail me, and we’ll be happy to send one out to you.

Are there money or tax questions you would like to see discussed in this column? Let me know, at 2835 N. Sheffield, Suite 311, Chicago, IL 60657, or call 773/525-1778 (888/525-1778 toll-free outside the Chicago area) or e-mail greg@gregmermel.com.

Greg Mermel is a certified public accountant whose clients in the arts range from individual performers to major theatre companies and suppliers. He also has been known to produce theatre.

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