Tax treatment of medical scheme contributions and other medical expenses

1. Tax treatment of medical scheme contributions and other medical expenses March 2006

2. The hardest thing in the world to understand is the income tax. Albert Einstein

3. Background • National Treasury and SARS in consultation with DOH has reviewed tax treatment • Effective 1 March 2006 • Affects tax treatment of medical scheme contributions and medical expenses • Will impact most members on medical schemes

4. Pre - 1 March 2006 • Employed • Monthly member contribution to medical scheme not tax deductible • Employer contribution not deemed to be fringe benefit up to limit (66% of total contribution – 2/3rds rule) • Member may claim medical expenses on annual assessment to extent that it exceeds 5% of taxable income

5. Pre - 1 March 2006 (cont.) • Pensioners (older than 65) & Disabled members excluded from 5% rule • Self employed members could only claim a contribution deduction on annual assessment based on 5% rule

6. Pre - 1 March (Example) • Current dispensation – Example • Single Member • Total Contribution: R1000 • Marginal Tax Rate: 35% • Employer contribution: R666 • Member Contribution: R333

7. Pre - 1 March (Example) • Current dispensation – Example 1 cont. • Member is taxed on 1/3rd of total contribution = R333 • Therefore employees tax = R333 x 35% = R116 • Only R333 p.m. can be included in annual assessment as medical expenses

8. Post 1 March 2006 • New dispensation • All medical aid contributions are deemed to be employee contributions (Change) • Members are taxed on amounts that exceed the monthly monetary cap (Change) • Members may claim medical expenses (including taxed contributions) on annual assessment to extent that it exceeds 7.5% of taxable income (Change)

9. Post 1 March 2006 • Pensioners (older than 65) & disabled members excluded from 7.5% rule (not affected) • Monthly monetary cap is as follows: • Member = R500 • 1 Additional dependant = R500 • All further dependants = R300

10. New dispensation – cont. • New dispensation – Example • Single Member • Total Contribution: R1000 • Marginal Tax Rate: 35% • Tax Free contribution: R500 • Fringe benefit: R500 • Monthly tax liability: R500 x 35% = R135 • (Currently R116)

11. New dispensation – cont.Breakeven point

12. Post 1 March 2006Breakeven point • If the contribution is higher than the Neutral level the member will pay more tax and vice versa • The impact will depend on the level of the contribution and the member’s marginal tax rate

13. Post - 1 March 20067.5% Rule • The full medical aid contribution will be deemed to be an employee contribution • The portion that the member did not get tax relief on will qualify for a deduction on assessment

14. Post - 1 March 20067.5% Rule • 7.5% rule – Example 1 • Single Member • Total Contribution: R1000 • Annual Taxable Income: R60 000 • Tax Free contribution: R500 • Fringe benefit (taxable): R500 x 12 = R6 000 • Annual threshold: 7.5% x R60 000 = R4500 • Claimable deduction: R6 000 – R4500 = R1500 • (Based on actual tax figures this member will pay R90 per annum more tax)

15. Post - 1 March 20067.5% Rule • 7.5% rule – Example 2 • Single Member • Total Contribution: R1000 • Annual Taxable Income: R100 000 • Monthly Monetary Cap: R500 • Fringe benefit (taxable): R500 x 12 = R6 000 • Annual threshold: 7.5% x R100 000 = R7500 • Claimable deduction: R6 000 – R7500 = R0 • (Based on actual tax figures this member will pay R360 per annum more tax)

16. Post - 1 March 2006

17. SARS - View • Encourages broader medical scheme coverage • Provides complete tax relief on affordable medical aid options for low and middle income families • Removes tax induced reduction in marginal price of more expensive options

18. SARS – View (cont.) • Removes tax induced reduction in marginal price of more expensive options • Interferes with market discipline on prices and cost • Pre – 1 March a marginal price increase of R1 resulted in a cost increase of R1.13 (Tax liability = R0.13) • Post – 1 March a marginal price increase of R1 will result in a cost increase of R1.40 (Tax liability = R0.40)

19. Post 1 March 2006Definition of Dependant • Income Tax Act was amended to change definition in line with Medical Schemes Act • “dependant” means – • (a) The spouse or partner, dependant children or other members of the member’s immediate family in respect of whom the member is liable for family care and support; or • (b) Any other person who, under the rules of a medial scheme, is recognised as a dependant of a member;

20. Post 1 March 2006Definition of Dependant (cont.) • Contributions i.r.o. (a) and (b) will qualify for preferential tax treatment • Medical expenses i.r.o. only (a) will qualify for preferential tax treatment • Implication for administrators (Tax certificates) • Reflecting of dependants and period on scheme • Medical expenses i.r.o (b) would have to be excluded

21. Looking to the future • Monthly Monetary Cap will be reviewed annually (undertaking by National Treasury) • 2007 – Consideration will be given to apply higher cap for adults and lower cap for children