Nearly 50% of Americans Think Their Insurance Premiums Are Tax Deductible — But Most of Them Are Incorrect

49 percent of Americans believe they can deduct the cost of their auto, health, home, or life insurance policies from their taxes. Most of these people, however, may face IRS repercussions if they try to deduct every insurance expense.

Policyholders can write off their health or auto insurance policies in some cases, but this is far from the norm for most Americans. The most recent coronavirus relief legislation, passed in March, increased tax breaks for COBRA and marketplace health insurance policyholders. As a result of legislative changes, these two groups are increasingly likely to be able to deduct a portion or all of their insurance premiums.

At the same time, many of these policyholders may be unaware of recent changes affecting the health care and health insurance industries. For example, we discovered that half of consumers believe the individual mandate for health insurance still exists, despite the fact that it hasn't since 2019. Others, such as those who received an insurance settlement, may believe they owe the IRS more money than they actually do.

51% believe insurance costs aren't tax deductible, but the truth is complicated

Although it is incorrect that a policyholder can never deduct the cost of their insurance from their taxes, it is difficult to understand when one's expenses are tax deductible. The type of coverage, as well as a variety of specific, individual characteristics that influence eligibility, determine whether or not insurance is tax deductible.

Most Americans are aware of the limitations of claiming a tax deduction for life insurance premiums. Only 8% of those polled claimed to be able to deduct their life insurance premiums. Individual life insurance premiums are considered personal expenses by the IRS and thus are not tax deductible.

While Americans were nearly uniformly correct when it came to filing for tax deductions for life insurance premiums, they were mixed when it came to the other types of insurance we asked about.

People were most likely to believe that their homeowners insurance expenses were tax deductible. Twenty-three percent of respondents, including 36 percent of men and 30 percent of Gen Xers, believed they could deduct their homeowners insurance as a tax deduction. Women (12%) and baby boomers (13%), on the other hand, expressed the most skepticism. In fact, with the exception of a few exceptions, policyholders cannot deduct their homeowners insurance under most circumstances:

• Policyholders who work from home may be able to deduct the coverage for the specific square footage used for their job.
• Homeowners who rent out their properties may be able to deduct their homeowners insurance as a business expense.

However, in both cases, these exceptions are unlikely to apply to the majority of people. In fact, insurers frequently specify the conditions under which they are obligated to cover a home based on the amount of business conducted on the premises. The terms of each insurer vary, but it's common for providers to waive coverage when a homeowner earns more than a certain amount from rental fares — the extra money earned from renting a home may void the protections provided by an insurance policy.

Many people, like those who have home insurance, believe that auto insurance premiums are tax deductible. While one out of every eight Americans believes they can deduct the cost of their auto insurance, only those who own a car for business purposes may be able to deduct the resulting insurance policy from their taxes. The majority of people are unable to do so. More information is available in our article Is Car Insurance Tax Deductible?

In every case, LowCostInsurance discovered that the wealthiest Americans were frequently wrong about the types of insurance that are tax deductible. While only 24% of Americans believed that home insurance was a deductible expense, 45 percent of those earning at least $100,000 per year did. Furthermore, 18% of people in the higher income bracket, compared to 12% overall, believed their auto insurance was deductible.

The LowCostInsurance survey revealed a general sense of uncertainty about the relationship between auto and homeowners insurance and taxes, but confusion about the complexities of health insurance and taxes is far more prevalent.

Misinformation about health insurance and taxes exceeds uncertainty about writing off premiums — but rules are changing

23 percent of Americans believe they can deduct health insurance premiums from their taxes. While this is partially true for many Americans, it is not true for everyone. In most cases, consumers with employer-sponsored medical coverage cannot deduct their health insurance premiums. Those with Medicare and individuals with COBRA plans who purchase their own health insurance through the Affordable Care Act (ACA) marketplace are eligible for an expanding list of tax deductions.

The coronavirus relief package, which was passed in March, increased tax benefits for many people. Nonetheless, according to Congressional Budget Office projections, 23 percent of Americans would still be unable to deduct their health insurance with IRS approval.

Individuals who had COBRA coverage in previous years would have had to pay up to 102 percent of their premiums for 18 months. However, through the end of September, the federal government only requires policyholders to pay 15% of their monthly premiums. The remainder is paid for by the government through tax breaks. COBRA enrollees who lost their jobs or saw their hours reduced involuntarily may also have their premiums paid for.

Depending on their income, those who obtain their health insurance through the ACA marketplace may be able to deduct a portion – or the entire – of their premiums.

Prior to the passage of the relief bill, eligibility for tax credits for those who bought their own health insurance through the federal marketplace was limited to those earning between 100 and 400 percent of the federal poverty level, and it was tied to local insurer prices and age. However, far more people may now be able to deduct their health insurance premiums when filing their taxes.

Those earning more than 400 percent of the federal poverty line may be eligible for tax breaks. Those with the lowest incomes could deduct the entirety of their premiums, but those earning more than $51,520 (400 percent of the federal poverty level) could deduct a portion of their premiums as well. Furthermore, those who received unemployment benefits may be eligible for a tax credit as if their income was equal to 133 percent of the federal poverty level, entitling them to a $0 net premium after tax credits.

Based on a misunderstanding of income and tax penalties, some consumers may be worried they aren't paying enough in taxes

In addition to being unsure about which types of insurance are generally eligible for tax credits, respondents to LowCostInsurance survey expressed a lack of understanding about income and taxes, as well as the possibility of penalties that could impair a household's ability to plan accurately for a budget.

Sixty-six percent of Americans believe that a loan from their life insurance policy is taxable income. However, this is not always the case. Rather, the funds obtained from a loan are frequently not taxed as ordinary income unless a policyholder's life insurance lapses or the amount owed on the loan — including interest — exceeds the policy's value.

Similarly, 61% believe they will have to pay taxes on insurance settlement money received after filing a claim. There are, however, a few exceptions where this money would be taxed. Any life insurance payouts that replace traditional income may be subject to taxation. Punitive damages and lost wages, both of which a policyholder may use their insurance to obtain, may also be taxed.

Finally, data suggests that a portion of the population may be anticipating tax penalties that do not materialize. Half of Americans believe that consumers who do not have health insurance must pay a fee when filing federal taxes. In reality, the individual mandate, which was originally included in the ACA legislation, has not been in effect since 2019. This is good news for those who lost health insurance coverage in 2020. Nonetheless, 61 percent of men believed this tax penalty existed, as did more than half of millennials (58%) and Gen Xers (56%).

Methodology

LowCostInsurance hired Qualtrics to conduct an online survey of 1,550 Americans from February 19 to 22, 2021. The survey was conducted with a non-probability sample, and quotas were used to ensure that the sample base represented the entire population. All responses were reviewed for quality control by researchers.

In 2021, we defined generations as the following ages:

• Generation Z: 18 to 24
• Millennial: 25 to 40
• Generation X: 41 to 55
• Baby boomer: 56 to 75

While the survey included consumers from the silent generation (those aged 76 and up), the sample size was insufficient to include findings from that group in the generational breakdowns.