YOU ASK:

Are disability insurance premiums tax deductible?

WE ANSWER:

Yes and no. It depends on how you want your disability insurance benefits to be taxed.

You can pay your disability premiums using pre-tax dollars or after tax dollars. Some of the factors that determine whether your disability insurance premiums are tax-deductible would be:

  • Who pays for the premiums (you or your employer)
  • What kind of disability insurance you get

But this is where it gets interesting - how your disability insurance benefits will be taxed. How you pay your insurance premiums (and who pays it) will have a strong impact on how your benefits will be taxed.

Pre-tax or after-tax dollars?

If you paid your premiums with pre-tax dollars (meaning the premiums were deducted from your income when filing your tax return), then your insurance proceeds will be taxed. Conversely, if you paid your premiums with after-tax dollars, then your insurance proceeds will be tax-free.

Premiums paid by employer or by you?

If your insurance premiums are paid (in full or in part) by your employer (meaning it's part of the employee benefits package), any proceeds you receive from the insurance will be taxable. The same is true for any payments you receive directly from your employer as part of your disability benefits.

However, if you paid for the insurance policy, any proceeds you receive will be exempt from tax. Also, even if your employer was the one who paid for the premiums but you reported this in your tax return as income, any disability insurance benefits are tax-free.

Now, what will happen if your employer paid for a portion of the premiums and you pay for a portion? Then, the IRS will compute the percentage of premiums your employer paid and tax the same portion when you receive the disability insurance benefits. For instance, you paid 40% of the premiums and your employer pad 60%, then for any disability benefits you get, 60% of it will be taxed.

Individual or group plan?

If you buy your own disability insurance and pay for it from your own pocket, you cannot generally deduct the premiums from your income tax return. However, as previously mentioned, any benefit payments are not taxable.

If your employer provides you with a cafeteria plan, you get to pay for your premiums with pre-tax dollars. You can authorize your HR department to make deductions on your salary, and in effect, the premiums are treated as a tax deduction.

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