Out-of-pocket expenses are costs that an individual is responsible for paying directly, some of which may or may not be reimbursed later. These costs are especially common in work-related contexts, where employee expenses are reimbursed by the employer, and in health insurance, where policyholders cover some medical expenses like deductibles, copays, and coinsurance.
Key Takeaways
- An out-of-pocket expense is a payment made with personal funds, which may be later reimbursed by an employer.
- Work-related out-of-pocket expenses are typically reimbursed by the employer following a company-approved process.
- In health insurance, out-of-pocket expenses represent the policyholder’s share of medical costs which may include deductibles, copays, and coinsurance.
- Health insurance plans have legally-mandated out-of-pocket maximums, capping the total amount an individual pays each year for covered expenses.
- Some out-of-pocket expenses can be deducted from income taxes if they meet certain criteria and surpass the standard deduction amounts.
Unleashing the Mystery of Out-of-Pocket Expenses
Employees frequently incur their own expenses for business-related activities, especially when traveling on behalf of their company. These out-of-pocket costs usually include airfare, car rentals, taxis or ride-sharing services, gas, tolls, parking, accommodation, meals, and work-related supplies or tools. Following a trip or purchase, employees can typically request reimbursement by submitting detailed expense reports.
In healthcare, out-of-pocket expenses refer to the amount the insurance does not cover, requiring the policyholder to pay, including deductible, copays, and coinsurance. Each insurance plan specifies out-of-pocket maximums, limiting the total costs an individual must bear annually. Under the Affordable Care Act (ACA), caps for out-of-pocket maximums are updated annually.
For example, in 2022, the out-of-pocket limit was $8,700 for individual coverage and $17,400 for family coverage. These increased to $9,100 for individuals and $18,200 for families in 2023. Although plans must comply with these caps, many offer lower maximums.
Achieving Clarity: Out-of-Pocket Maximums vs. Deductibles
A deductible is the amount a policyholder must pay out-of-pocket each year before insurance coverage begins. Once the deductible is satisfied, the insurance company shares costs through a co-payment structure known as coinsurance. In a typical 80/20 plan, the policyholder pays 20% of the bill, and the insurance company covers 80%. All coinsurance amounts, copays, and deductible costs lead up to the annual out-of-pocket maximum, after which the insurance plan covers 100% of the remaining expenses for that year.
Health plans such as high-deductible health plans (HDHPs) can offer lower monthly premiums. HDHPs also enable contributions to a health savings account (HSA), providing tax benefits. For instance, for 2022 and 2023, the IRS defined HDHPs and outlined deductible and out-of-pocket limits, allowing substantial pre-tax contributions to HSAs.
High-Deductible Health Plans (HDHPs)
HDHPs offer savings via lower premiums and tax advantages through HSAs. For the 2022 tax year, an HDHP requires a minimum deductible of $1,400 for individual plans and $2,800 for family plans. These increased to $1,500 and $3,000, respectively, in 2023.
Annual HSA contribution limits also apply, with 2022 caps at $3,650 for individual plans and $7,300 for family plans. The contributions increased to $3,850 (individual) and $7,750 (family) for 2023. Individuals aged 55 and older can make additional catch-up contributions.
Real-Life Moments: Examples of Out-of-Pocket Expenses
Let’s consider a work-related expense scenario. Assume an employee travels for a meeting with a client. They spend $250 on airfare, $50 on Uber rides, $100 on a hotel, and $100 on meals—totaling $500. After returning, the employee submits an expense report and is reimbursed $500 by the company.
For health-related expenses, prescription medications serve as a common out-of-pocket cost. For example, Lisa has a combined deductible of $2,500. After spending $2,350 on medical costs, she needs to pay $150 for a prescription, meeting her total deductible. Future prescription refills may include a small fixed copay regardless of the past transactions fulfilling the deductible.
Navigating Other Out-of-Pocket Scenarios
In real estate, out-of-pocket expenses cover costs beyond the mortgage, including home inspections, appraisal fees, loan origination fees, attorney fees, and property taxes.
Leveraging Tax Deductions with Out-of-Pocket Expenses
Certain out-of-pocket expenses qualify as tax deductions, including expenses related to charitable donations or eligible medical expenses. However, following the 2017 Tax Cuts and Jobs Act (TCJA), work-related deductions largely vanished for non-military taxpayers.
Recognizing Moving and Relocation Expenses
For 2018–2025, moving expenses have largely been removed as tax deductions with the exception for active-duty military members relocating due to orders. Qualifying expenses include packing, transportation, in-transit storage, and insurance. Served members claim these using IRS Form 3903.
What Defining Out-of-Pocket Means
An out-of-pocket expense is any direct payment made without immediate reimbursement. These expenses could be business-related travel or health expenses that lay heavy before meeting insurance deductibles.
Distinguishing a Deductible vs. Out-of-Pocket Expense
In health insurance, a deductible is how much a policyholder pays annually before the insurance aid starts. The out-of-pocket maximum caps all possible annual costs, collapsing deductibles, coinsurance, and copayments into an inclusive total limit.
When Out-of-Pocket Isn’t What It Seems
A monthly insurance premium doesn’t fit out-of-pocket definitions. Instead, out-of-pocket references cumulative expenses post-deductible on insured services or fully non-covered service payments.
Weighing Direct Payment vs. Insurance Use
Choosing high-deductible plans with lower premiums works cost-efficiently for profiles with minimal expected medical needs. Conversely, lower deductile plans are sustainable for those anticipating annual substantial preventive and necessary care.
The Journey Bon Mot
Estimating yearly medical needs wisely surfaces the choice between high or low deductible plan virtues. Consideration spans beyond plan terms to involve potential evolving healthcare needs, family shapes, and financial stage impacts. Calculating these variables renders prudent fiscal forecasts and planning crafted to mitigate out-of-pocket strains.
Related Terms: deductible, copayment, coinsurance, health savings account, premium.
References
- U.S. Centers for Medicare & Medicaid Services. “Out-of-Pocket Maximum/Limit”.
- Internal Revenue Service. “Topic No. 502 Medical and Dental Expenses”.
- U.S. Centers for Medicare & Medicaid Services. “Affordable Care Act Implementation FAQs - Set 18”.
- Internal Revenue Service. “Rev. Proc. 2021-25”, Pages 1-2.
- Internal Revenue Service. “RP-2022-24”, Pages 1-2.
- U.S. Centers for Medicare & Medicaid Services. “High Deductible Health Plan (HDHP)”.
- Society for Human Resource Management. “IRS Announces Spike in 2023 Limits for HSAs and High-Deductible Health Plans”.
- U.S. Office of Personnel Management (OPM). “FastFacts High Deductible Health Plans”.
- Internal Revenue Service. “Publication 969 (2022), Health Savings Accounts and Other Tax-Favored Health Plans”.
- U.S. Congress. “H.R.1 - An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018”.
- Internal Revenue Service. “Here’s Who Qualifies for the Employee Business Expense Deduction”.
- Internal Revenue Service. “Instructions for Form 3903”.
- Internal Revenue Service. “Topic No. 455 Moving Expenses for Members of the Armed Forces”.
