Publication 907 by the Internal Revenue Service (IRS) explicitly states that income from any benefit received in the form of disability insurance compensation becomes taxable depending upon the person’s income, the provider or contributor of the premium of the insurance, and insurer or the insurance company. The following is a small summary of the tax laws, norms, and rules that can come in handy while you file your income tax returns and avail some or the other deduction.
Taxing Disability Benefits
The first type of disability benefit that is mentioned by the IRS is dependent care benefit. Here the value of dependent care at a fair market value, or the allowance tiredly paid to you for the same or any pre-tax contribution made by you in such a case is included in your annual income. In case where the care plan is a qualified dependent care plan then, Part III of the 2441 is to be filled for the claimed exclusion, which is often granted. If you are self-employed, then you can get a deduction for a qualified program. Any amount that you exclude, under the law of exemptions on tax return, as in the first case or deduct as in the second case, is limited to the smallest of either:
- The total sum that you spend on dependent care for the year, or
- The total amount of qualified expenses that you incurred, or
- The total income that you earned in the year or the income of you spouse, or
- Simply USD 5,000
So, basically, if you are receiving any unrecognized benefit, allowance, or direct provision for disabled dependent care, then you will need to include it into the income, however, if you have a recognized or qualified plan, then you can avail exclusion. You will have to check the qualifying conditions for the person, and will also have to submit some specified forms.
In the second case, that is a Social Security benefit (also known as Social Security Disability Insurance) or a Railroad Retirement Benefit, a part of the income is taxed. In cases where you received the Social Security benefit (sometimes also known as only social security) or the Railroad Retirement Benefit, as your only income and nothing else, then you will not have to file a return. There are exceptions to this rule. In cases where you receive an income apart from the Social security benefit or the railroad retirement benefit then there are some compliances which you will have to go through. In such a case, if your income (not including the benefit) plus the tax exempt interest plus half of your benefits exceed anything as follows:
- USD 25,000 in case of you are single and head of the household and a widow or widower, or
- USD 25,000 in cases where you are married, but filing separately and are also living apart from your spouse for the past year, or
- USD 32,000 if you are married and filing jointly
,then your benefit is partially taxable. In case if you are receiving Supplemental Security Income (SSI), it is totally tax-free and are not to be included in the income.
In cases where you have retired on a disability, then the pension that you receive as Disability pension is included in your income. Further, your taxable disability payments need to be included in the wages column on the Form 1040, till you reach the minimum retirement age. In regard to pension included as income, note that Publication 525 of the IRS gives certain pensions provided by the military or government pensions as wages or incomes. The veteran’s benefits are also not to be included in any income irrespective of their nature. Hence, disability income taxation rules are not applicable to the veteran’s benefit, provided by the military or the government.
There are certain disability benefits that one may receive. The following ones are non-taxable:
- Benefits received from a public welfare fund
- Workers compensation as per occupational sickness
- Damages for any physical injury, that is not punitive
- The benefits received as per the no fault policy of a car insurance against a loss of earning capacity, for the time being
- Compensation provided against permanent disfigurement
There are several other such terms and conditions that may apply to you. Hence, it is best to take a look at all the classifications and taxation elements of the compensation, benefits, and all other allowances or reimbursements that you receive against a disability. When in doubt, contact the helpline of the IRS or see a recognized attorney or accountant. Apart from the aforementioned deductions, itemized deductions and additional deductions apply to the disability income. In a short term disability you can make use of itemized deductions as they are considerably advantageous.