Note: much of the information below was pulled from the old Polito Eppich website — however, they have since merged with another firm to become Magnus Blue, and as such have removed their former blog content. My 2018 blog post linking to their article on how to properly account for partnership and S-Corp health insurance to avoid double-dipping now points to a web archive of the original site — but since that’s hard to find, I’m borrowing some of their material and sharing it here as well. To-date it’s the most well-illustrated and to-the-point summary I’ve seen on the topic.
The IRS rules for reporting health insurance premiums for partnership and S-Corp owners are complex, and as a result, easy to accidentally bungle. Sometimes an entity will incorrectly deduct the premium, and so will the owner — on their personal return — leading to what is known as “double-dipping”. This usually happens when the person preparing the personal return did not also prepare the business entity return.
TL;DR? The most important take-aways are:
1) you can’t double-dip; and,
2) though the particular hoops that have to be jumped through are a) different for partnerships than for S-Corps, and b) a PITA for both, they are in fact the law and must be followed.
The key here is that when the entity pays for health insurance for owners, it is deducted as payments for services to the partners or S-Corp shareholders — who are then entitled to take the self-employed medical insurance deduction — which means it will net to zero deduction on the personal return. If you’re not careful, then the deduction is mistakenly taken on both the entity-level and personal returns. In their original article, Polito Eppich illustrated the accidental double-dipping (all charts are copyright of Polito Eppich).
We will use an example of a $10,000 medical insurance premium to illustrate this issue. Here’s what was happening (incorrect approach):
| Income (Expense) | Passthrough Business Entity | Owner’s K-1 | Owner’s Personal Return | Net Taxable Income |
|---|---|---|---|---|
| Medical premiums paid | $(10,000) | |||
| Ordinary income reduced | $(10,000) | $(10,000) | ||
| Self-employed medical insurance deducted | $(10,000) | (10,00) | ||
| Total effective deduction on owner’s return | $(20,000) |
Here is how it should be handled:
PARTNERSHIPS
The actual deduction occurs at the partnership level and is passed to the partner — via lower income on the K-1.
If the partnership pays for the health insurance premiums for its partners, it deducts the expense as guaranteed payments and reports the amount to each partner on their respective K-1s as guaranteed payments.
The partner then picks up the guaranteed payment as income and reports “self-employed health insurance” deduction. The guaranteed payment offsets the self employed health insurance deduction for a net zero effect on taxable income, thus the single deduction described above on the K-1.
(When a partner pays his (her) own medical insurance premiums, the self-employed medical insurance deduction is allowed if there is self-employment income.)
Correct reporting for partnership:
| Income (Expense) | Partnership | Owner’s K-1 | Owner’s Personal Return | Net Taxable Income |
|---|---|---|---|---|
| Medical insurance premiums paid and deducted | $(10,000) | $(10,000) | $(10,000) | $(10,000) |
| Guaranteed payment to partner | 10,000 | 10,000 | 10,000 | |
| Self-employed medical insurance deduction | (10,000) | (10,000) | (10,000) | |
| Total effective deduction on owner’s return | $(10,000) |
S-CORPORATIONS
S-Corps are a bit more complex because owners who work for the company are paid payroll via W-2 (rather than guaranteed payments to partners). Keep in mind that these rules only apply to shareholders who own more than 2% of the company. Owners below 2% are not eligible for the self-employed medical insurance deduction.
The S-corporation deducts the expense as compensation and includes the amount on the shareholder’s W-2 — in Box 1, but not in Boxes 3 or 5, which means they are not subject to Social Security or Medicare taxes (commonly known as “payroll taxes” or “employment taxes”). The amount should also be reported in box 14 of the W-2 — this is only for informational purposes, so that the personal tax preparer knows to take the deduction. Some payroll companies will track this reporting properly throughout the year, but others require a call at year-end to make sure this amount shows up properly in Box 1 and 14. (See my blog post on how to handle this for Gusto Payroll.)
The shareholder reports the compensation from their W-2, then deducts the health insurance amount noted in Box 14 on the W-2 as a “self-employed health insurance” deduction on the personal 1040. Because the amount is subject to income taxes, but not employment taxes, taking the self-employed health insurance deduction leads to a net-zero impact to taxable income. The actual deduction is achieved at the corporation level and passed to the shareholder in the form of lower income reported on the K-1.
Correct reporting by S Corporation for 2% or greater shareholders:
| Income (Expense) | S-Corp | Shareholders’s K-1 | Owner’s Personal Return | Net Taxable Income |
|---|---|---|---|---|
| Medical insurance premiums paid and deducted as owner wages lower ordinary income | $(10,000) | $(10,000) | $(10,000) | $(10,000) |
| Owner’s W-2 | 10,000 | 10,000 | ||
| Greater than 2% shareholder medical insurance premium (Noted in Box 14 of W-2) | (10,000) | (10,000) | (10,000) | |
| Net taxable income reported by shareholder | $(10,000) |
Either way — partnership or S-Corp, the net result is that the amount paid by the company for health insurance on behalf of owners should only be deducted once, on the entity return, and as payments for services. On the personal return these payments will net to zero after the deduction for self-employed health insurance is taken.
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