Advance Medical Payments

[MarkCTX]

I'm pretty sure I'm right about this issue. Client's mother, age 96, lives in a nursing facility. The mother will have an annuity mature this year, 2014, resulting in over $100K income. Client wants to prepay the nursing home and write off the expense in 2014, thus matching the expense to the income in 2014 resulting in a lower tax bill. I don't think he can do that. The nursing facility does not require prepayment. I think I read a court case where to lump prepaid medical expense would violate the percentage of AGI floor limitation. Does anyone know of an exception where this scheme would be allowed?

Mark

[Roland Slugg]

Only medical expenses actually paid during the tax year are deductible. (Code §213(a)) Advance payment of anticipated medical expenses doesn't qualify for a current deduction unless there is a contractual obligation to pay in the current year.

It might be worthwhile for your client to talk with a CFP or an annuity salesman, or even with the life insurance company that sold the annuity. Perhaps there is something that can be done to spread the distribution over two or three years ... a short-term annuitization arrangement, perhaps.

You said there will be over $100k of income. Did you take into account the mother's basis in the contract? If the annuity is in an IRA, it will be 100% taxable, of course (unless her IRA has a recoverable basis), but if the annuity was not acquired with IRA funds, her unrecovered basis will not be taxable upon redemption.

[FEDUKE404]

Clarify "contractual obligation"

Only medical expenses actually paid during the tax year are deductible. (Code §213(a)) Advance payment of anticipated medical expenses doesn't qualify for a current deduction unless there is a contractual obligation to pay in the current year.

Could you clarify between "a contractual obligation to pay" versus "a contractual obligation to pay in the current year"?

I've seen plenty of the former, but not sure if I've ever seen one of the latter.

Typical situation I've encountered is of the type where a parent signs a contract to pay $A for B months on something like braces for dependent. Instead of paying $A times B over a couple of years, parent pays upfront (mainly to crack the 7.5% medical AGI floor) at the start of treatment. ( The medical provider may even reduce the total amount due, under such circumstances. Time value of money, etc. )

Are you saying that single payment would not be a valid medical deduction for the year of payment?

FE

[Burke]

Roland brings up a good point. From the circumstances described in the OP, this sounds like a tax-deferred annuity with some sort of basis. Poster should contact the insurance agent or firm through which this is handled (or review the actual policy which taxpayer should have). It will give you all the information regarding original basis, if any, type of annuity (qualified - IRA) or non-qualified, and the methods of settlement allowed. Due to her age, and/or the policy terms, she may have no choice but to receive the total funds. But it may not all be taxable. It is unlikely she can pay the nursing home and write off the entire amount on her taxes.

[MarkCTX]

Rev Rul. 75-303 and Rev Rul. 93-72 may shed some light. In the Bassett case (1956) the taxpayer was denied the deduction. In a later case the deduction was allowed because the institution would not admit the patient until advance payments were agreed to. Consequently the taxpayer had to pay in advance for medical treatments in the current year.

Mark