Tax Facts

No matter how much you love your country, it all changes when you have an IRS form 1040 in front of you. This doesn't mean that you're not a dedicated American citizen that's willing to pay his own fair share; it simply means you don't want to pay another person's share of the tax burden too. It also becomes a great game finding every type of deduction under the sun. Some people, I won't mention any names, even consider taking their cat's prescription drugs off their taxes as a medical expense.

If you participate in a voluntary disability plan, you might wonder whether you can deduct the premiums on your taxes. After all, it is a form of health insurance and that is tax deductible with half the premiums off your annual gross income and the other half off itemized deductions. Disability is a form of health insurance; however, for tax purposes, the government treats it differently. You can hunt forever on your tax form and you won't find the appropriate place to deduct it.

The tax laws state you receive payments from voluntary disability on a tax-free basis. If you check the tax law further, you'll find that no other disability income premium is tax deductible except for those that are mandatory. If you contribute to a voluntary plan, you can't take it off your taxes. However, you'll find that you can deduct payment into mandatory disability funds in some states. These states are California, New York, New Jersey, Washington and Rhode Island.

Logically, you can deduce that if you receive the benefits income tax-free for voluntary disability, you can't deduct the premiums from your taxes or it would change that status. You get money from voluntary disability income and anytime you receive money, there's taxes paid somewhere. You get to either take a bit off your taxes for the premium now or pay a whole bundle of taxes on the benefit later; when you can least afford it. The way the law reads now, you get a huge benefit.

The tax-free status of the plan is the reason that companies only allow you to purchase disability income on a percentage of your income. Otherwise, you'd make more money disabled and would have no incentive to go back to work.

In fact, instead of deducting voluntary disability premiums, you may actually have to pay taxes on them. They count as extra income to your taxable income if your employer paid part of your disability premiums. That amount shows on your W-2 and is taxed the year the employer paid the premium. By paying the taxes on the premium, it means that you actually paid the premium with compensation paid by the employer. This keeps you're the status of your benefits tax-free.

Sources:

Personal experience as a financial consultant/stockbroker/insurance rep who helped clients with taxes.

IRS: Life Insurance and Disability [http://www.irs.gov/faqs/faq/0,,id=199752,00.html]

NY CPAs Disability Insurance Planning for Professionals [http://www.nysscpa.org/cpajournal/2007/1207/essentials/p56.htm]

MoneyCentral.MSN: Can I Deduct the Premiums for Disability Insurance? [http://moneycentral.msn.com/quickref/quickref.asp?Cat=10&SelCat=2&RefType=0&QAMode=1&QID=870&Topic=2&Sub=3]