Healthcare Income Pitfalls

Cameron Hamilton

We love seeing those we work with succeed.  On a weekly basis we get to be cheerleaders when we’re among the first to learn about a promotion, a sale, or some other windfall that will leave a family in a better place financially.  Nearly everyone agrees that more income is good, the one exception being the taxman.  While income tax is progressive and there is never a disincentive to earn another dollar, we have seen scenarios that make a windfall feel less exciting after the fact.  Today we want to discuss two scenarios that can make folks wrongly feel as if their good fortune has been the opposite.

The Health Insurance Marketplace

Many early retirees, entrepreneurs, and others not covered by a company health plan will find themselves visiting HealthCare.gov and applying through the insurance exchange created after the Affordable Care Act.  During the open enrollment period, each November 1 to December 15, they can choose among available plans for their area.  Premiums are based on zip code, but they are also indirectly based on income via the oft misunderstood Premium Tax Credit.  Each applicant reports their estimated income to determine their amount of Premium Tax Credit.  However, those receiving a credit report it on their next tax return and any income over the amount estimated can result in a claw-back of the credit and therefore a surprise tax bill.

 

 

For example, a sixty-year-old Kentucky male earning an extra $28,000/yr receives $314/mo less in Premium Tax Credit, or $3,768/yr.  This means that, if on the exchange, any additional income¹ can create additional tax liability.  The Premium Tax Credit phases out² completely at $48,560 for individuals and $65,840 for a couple, meaning this tax pitfall is only for lower-income retirees.

This claw-back hurts because of our recency bias.  Since we already earned & enjoyed the income in the previous year before we receive the tax bill, we may lament having earned more income.  However, if we are asked at any time whether we would like to have an unexpected windfall next month, we would always answer an emphatic, “YES!”  We take this stance when we think about the Premium Tax Credit and would only avoid income by delaying it if a client found themselves in an unusual tax year, such as having a period of unemployment.

Age 65+ Retirees: Medicare

Early retirees and entrepreneurs aren’t the only ones who can be adversely affected by increased income.  Medicare enrollees have a more severe pitfall.  Whereas the ACA Premium Tax Credit has income phase-outs, Medicare has income cliffs.  For example, when a retired couple earns just one additional dollar above $214,000, they pay an extra $1,212/yr in Medicare Income-Related Adjustment.

 

Medicare IRMAA Premium Surcharges, 2018

Individual Filer Income

Joint Filer Income

IRMAA Surcharge

Below $85,000

Below $170,000 $0.00

Up to $107,000

Up to $214,000

$66.50

Up to $133,500

Up to $267,500

$167.50

Up to $160,000

Up to $320,000

$268.50

Above $160,000

Above $320,000

$369.40

Ballast, 2018 via Medicare.gov

 

Unlike the ACA Credit, which adjusts at the end of the tax year, this Medicare surcharge is based on previous tax returns and uses the prior-prior year convention.  This means that income from 2016 is just being considered for the 2018 surcharge, which is debited from the monthly Social Security payment.  With a two-year lag on this adjustment, it is even more detached from the income that causes it.

While these two income pitfalls retirees should be monitored, they should not be avoided at all costs.  We must be wary of letting the tail wag the dog when it comes to taxes.  Earning extra income and having a capital gain are both great.  In such times of plenty, it also helps to think about potential tax consequences and hold back some savings so the tax bill doesn’t ruin the party.

  1. Modified Adjusted Income includes wages, self-employment, pension, interest, Social Security, capital gains https://www.healthcare.gov/glossary/modified-adjusted-gross-income-magi/
  2. 2017 Phase-out is 400% of Federal Poverty Level https://www.healthcare.gov/glossary/federal-poverty-level-fpl/
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