Maximizing Itemized Deductions

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It has a shot of the tax firm and a welcome message. There is a button to start labeled “Begin.”

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Inside the accounting firm, in a conference room.

Wade speaking to Carmen

Wade: Hi, Carmen. Good job resolving the issues from last week with Randy Charles.

He had quite a few complicated tax issues. First, he needed to determine whether the cost of his work-related education costs should be classified as unreimbursed employee expenses that are deducted on a Schedule A form or education expenses, which are deducted on Form 8863. If his employer requires him to obtain continuing education as a requirement to keep his job, and does not reimburse him, then the expenses are considered unreimbursed employee expenses.

Carmen: If the employer does not reimburse the cost, there is a two percent limitation on the deductibility. If he decides to enter into a degree program, he will be entitled to the American Opportunity Credit or Lifetime Learning Credit, but the educational credits are subject to income limitations.

Wade: Another tax planning strategy to consider, if the educational expenses are related to his self-employment business, is to write off one-hundred percent of the expenses against his business income.

Carmen: I can see now that educational expenses are quite complex.

Wade: All right, Carmen, let’s get started with our work for this week. Our focus will be on itemized deductions.

Carmen: Okay, great!

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Wade and Carmen in his office

Wade: Jonathon Dixon, a new client, is in a high tax bracket and has several tax issues to discuss with you. He’s single and extremely health conscious. From speaking with him over the telephone, he may even be a bit obsessive. He needs us to determine whether or not his medical expenses are deductible. I will set up the meeting for this afternoon.

Carmen: All right! Thanks, Wade!

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Wade, Carmen and Jonathan Dixon in the conference room.

Wade: Jonathon, I would like to introduce you to our Tax Accountant job candidate, Carmen Flores. She will be conducting this interview session, please speak freely about your tax issues.

Carmen: It’s nice to meet you, Mr. Dixon.

Jonathon Dixon: Likewise, Carmen. Good luck the rest of the way with the firm.

Carmen: Thank you, Mr. Dixon. I have enjoyed the work that I’ve been doing. Please tell me what brings you to our office.

Jonathon Dixon: Well, I brought a folder full of paperwork to document my medical expenses. I’ve spent thousands of dollars on holistic medication this year. I am also being treated for psoriasis. I have also paid thousands of dollars to a personal trainer because weight management is a priority for me. I consulted with my physician because my family has a history of diabetes. He informed me that to reduce the risk, I needed to pay special attention to my diet and weight. If I can deduct these expenses this year, next year I am attending a weight loss camp for a month that could possibly cost up to fifteen-thousand dollars.

However, if these medical expenses are not deductible, I would like to consider making charitable contributions instead in order to reduce my tax liability. So far this year, I have made a two-thousand dollar contribution to a neighbor who was in need because she recently lost her job.

Carmen: We can certainly help you make these decisions.

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Key Chapter provisions

Title: Deductions and Losses: Certain Itemized Deductions

Introduction: You should itemize deductions if your total deductions are more than the standard deduction amount. After computing their adjusted gross income, or AGI, taxpayers can itemize their deductions and subtract those itemized deductions from AGI to arrive at taxable income.

Tab 1: You can deduct on Schedule A, Form 1040 only the amount of your medical and dental expenses that are more than seven-point-five percent of your AGI. Generally, you can include only the medical and dental expenses you paid this year, regardless of when the services were provided.

Tab 2: If you recover any amount that you deducted in an earlier year on Schedule A, Form 1040, you generally must include the full amount of the recovery in your income in the year you receive it.

Tab 3: You can deduct your contributions only if you make them to a qualified organization. Most organizations, other than churches and governments, must apply to the IRS to become a qualified organization.

Tab 4: Contributions to individuals who are needy or worthy cannot be deducted. You cannot deduct donations to a qualified organization if these contributions are earmarked for the benefit of a specific person or family, but you can deduct a contribution to a qualified organization that helps needy or worthy individuals if you do not indicate that your contribution is for a specific person.

Tab 5: Generally, you cannot include in medical expenses the amount you pay for unnecessary cosmetic surgery. This includes any procedure that is directed at improving the patient's appearance and does not meaningfully promote the proper function of the body or prevent or treat illness or disease. You generally cannot include in medical expenses the amount you pay for procedures to manage weight, such as health clubs, unless a physician recommends it to treat obesity.

Tab 6: You can include in medical expenses the amount you pay for cosmetic surgery if it is necessary to improve a deformity arising from, or directly related to, a congenital abnormality, a personal injury resulting from an accident or trauma, or a disfiguring disease.

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From the information provided, under what circumstances would his deductions be allowed?

1. The holistic medicine cannot be deducted as a medical expense unless it was prescribed by a doctor to treat an illness. The medicine must be prescribed by a physician and cannot be purchased over the counter.

2. The treatment for pPsoriasis is specifically categorized as a skin disease, and treatment is an allowable medical expense.

3. The weight loss camp, even if the taxpayer believes it would reduce the risk of diabetes, is also considered elective. To be deductible, surgery would have to be performed to remedy a congenital defect or because it is considered medically necessary by a physician.

4. Charitable contributions must be donated to charities that are approved by the IRS. Contributions are not deductible when donated directly to an individual or family.

Carmen: If the weight management and holistic medicines are not prescribed by a doctor, then they are not qualified medical expenses.

The treatment of pPsoriasis is a common skin disorder related to the immune system, and treatment is an allowable medical expense..

Attending weight reduction programs, unless medically necessary, is considered cosmetic and does not qualify as a medical deduction.

The contribution to a needy neighbor is not a qualified charitable contribution, since donations cannot be made directly to any individual. Contributions must be made to a qualified organization that has received approval by the IRS. Verification of those qualified organizations can be done by using the IRS database of eligible organizations to receive tax deductible contributions.

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Carmen and Wade in Wade's office

Wade: Carmen, I agree with your advice to Jonathon. Let’s review a draft of his tax return and determine what other tax planning strategies we can develop to minimize his tax liability.

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Carmen, Jonathan Dixon, and Wade in the conference room

Carmen: Good afternoon, Mr. Dixon. We have a draft of your tax return for review.

I’m sorry to inform you that your holistic medicine costs, costs for personal trainers, and the impending stay at the weight loss camp are not deductible medical expenses.

However, the treatment for psoriasis is a deductible medical expense. The medicine and medical procedure must be medically necessary and performed to correct a deformity due to an accident, injury, or congenital condition.

My advice is not to undergo attend the weight loss camp with the expectation of reducing your tax liability. My recommendation for next year is to make charitable contributions to approved tax-exempt organizations rather than to individuals or families. We can provide a list of approved tax-exempt organizations.

Please review the draft of the return and if there are no changes, we are ready to file the changes.

Jonathon Dixon: Thanks, Carmen. I am glad that I consulted with you before paying the deposit for the weight loss camp.

Carmen: You’re most welcome! Let me know if there is anything else you need.

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Wade in his office

Wade: Well, it's approaching the end of the day. We have reviewed several common deductions that can benefit self-employed taxpayers. I recommend that you continue to review the contents of Publication Seventeen to prepare for our next topic next week, which will be Investor Losses.

By the way, don’t forget to participate in this week’s discussion questions.

I’ll see you next week!