There has been a great deal of media coverage related to the US Supreme Court upholding the Affordable Care Act, also known as the Health Care Law. The media coverage was generally political and failed to explain the details of how the law will impact individuals. If you are interested in political rhetoric as to whether it is a tax, penalty, or a forced purchase, look no further. The intent of this article is to explain how the Affordable Care Act will impact your pocketbook in 2013, when the healthcare taxes kick in, and in 2014, when the mandatory insurance requirement becomes effective. Here are the details for 2013:
- Increased Hospital Insurance Tax—Part of the taxes withheld on employees’ wages covers the Hospital Insurance (HI) portion of their contribution to Medicare; self-employed individuals pay the HI tax as part of the self-employment tax that is included in their tax return. The HI tax rate (currently at 1.45% for employees and 2.9% for self-employed individuals) will increase by 0.9 percentage points on individual taxpayer earnings (wages and self-employment income) in excess of compensation thresholds for the taxpayer’s filing status. Thus, the wage withholding HI rate will be 1.45% up to the income threshold noted below and 2.35% (1.45 + 0.9) on amounts in excess of the income thresholds. The hospital insurance portion of the SE tax rate will be 2.9% up to the income threshold and 3.8% (2.9 + 0.9) on amounts in excess of the threshold. The income threshold at which this increase begins is $250,000 for married taxpayers filing jointly, $125,000 for married taxpayers filing separately, and $200,000 for all other taxpayers. Impact: Higher income working families.
For married taxpayers, this additional tax is based upon their joint income. However, if both spouses work, their employers will only base the withholding on the employee’s individual earnings. Thus, married taxpayers who both work may find themselves under-withheld on HI taxes and will therefore be required to pay the uncollected HI tax on their income tax return when it is filed. They may need to take steps to increase income tax withholding or pay or increase estimated taxes in order to compensate.
- Surtax on Unearned Income—A new surtax called the Unearned Income Medicare Contribution Tax is imposed on the unearned income of individuals, estates, and trusts. For individuals, the surtax is 3.8% of the lesser of:
- The taxpayer’s net investment income or
- The excess of modified adjusted gross income over the threshold amount ($250,000 for a joint return or surviving spouse, $125,000 for a married individual filing a separate return, and $200,000 for all others).
“Net” investment income is investment income reduced by allowable investment expenses. Investment income includes income from interest, dividends, annuities, royalties, rents (other than those derived from a trade or business), capital gains (other than those derived from a trade or business), trade or business income that is a passive activity with respect to the taxpayer, and trade or business income with respect to the trading of financial instruments or commodities. For surtax purposes, modified adjusted gross income does not include excluded items, such as interest on tax-exempt bonds, veterans’ benefits, and excluded gains from the sale of a principal residence. Impact: Higher income families.
In order to avoid or minimize this new tax, higher income taxpayers may wish to alter their investment portfolios to include more of the non-taxable investments mentioned above.
Homeowners should be aware that the gain from the sale of their primary home in excess of the homeowner’s gain exclusion or gain from selling a second home is treated as investment income and would be subject to this new tax.
- Deductible Medical Expenses Threshold Increases—Beginning in 2013, for taxpayers under the age of 65, the AGI threshold percentage for claiming medical expenses on a taxpayer’s Schedule A will increase from 7.5% to 10%, which is the same as the current threshold percentage for alternative minimum tax (AMT) purposes. Individuals (and their spouses) age 65 (before the close of the year) and older will continue to use the 7.5% rate through 2016. Thus, it may be appropriate to pay outstanding medical bills or pre-pay such things as orthodontics for a child before the AGI threshold increases to 10%. In addition, if you are considering elective deductible medical procedures, such as laser eye surgery, it may be beneficial to have the procedure and pay for it in 2012. Impact: All taxpayers (except seniors for now) who itemize their medical expenses.
- Employer Health FLEX-Spending Plan Contributions Limited—In order for a health flexible spending account (FSA) to be a qualified benefit under a cafeteria plan, the maximum amount available for the reimbursement of incurred medical expenses of an employee, the employee’s dependents, and any other eligible beneficiaries with respect to the employee under the health FSA for a plan year (or other 12-month coverage period) cannot exceed $2,500. Impact: All taxpayers participating in health FSAs.
Some taxpayers or employers may wish to consider establishing Health Savings Accounts or Medical Expense Reimbursement Plans to write off newly-disallowed medical expenses as a result of the increased medical deduction AGI limitation and the reduced benefits from the employer’s health flex-spending plans.
Beginning in 2014, all U.S. citizens and legal residents, except for those who are exempt from the requirement, will have to maintain minimum essential health insurance coverage or pay a penalty. Generally, individuals who are covered by health insurance through their employers will have met the mandate. Impact: Lower income individuals and families not exempt from the requirement.
Those exempt from this requirement include low income individuals and families (for whom the cost of minimum required coverage exceeds 8% of their annual income), those not required to file a Federal tax return because their income is below the filing threshold, those who are unlawfully present in the United States, incarcerated individuals, Indian tribal members, religious objectors, and individuals with hardship waivers.
Minimum essential coverage generally includes:
- Private market plans
- Government sponsored programs (e.g., Medicare, Medicaid, Veterans Administration, etc.)
- Eligible employer-sponsored plans
- American Health Exchange “bronze” coverage (pays 60% of covered expenses)
According to the American Health Benefit Exchange, by 2014, each state must establish an Exchange to help individuals and small employers obtain coverage. Benefit options will be in a standard format, and a single enrollment form will be used for all policies. Plans offered through an Exchange must provide essential health benefits, limit cost sharing, and provide specified accrual benefits (i.e., the percentage amount paid the insurer). Out-of-pocket deductibles are limited to the same amounts as the caps for Health Savings Accounts and are further limited to $2,000 ($4,000 for families) in the small group market. Plans in the individual and small group markets use a metallic designation for the accrual benefits provided:
- Bronze 60%
- Silver 70%
- Gold 80%
- Platinum 90%
The law provides a premium assistance credit for low-income families whose household income is at least 100%, but not more than 400% of the federal poverty line, and who do not receive health insurance under an employer plan, Medicaid, or other acceptable coverage. Based upon the 2011 poverty levels, the credit would phase out at $43,560 for individuals and $89,400 for a family of four. Eligibility for the premium assistance credit will be based on the individual’s income for the tax year ending two years prior to the enrollment period.
The credit, which will be paid by the government directly to the insurance company, is based on the taxpayer’s household income level relative to the federal poverty line. The calculation is computed on a sliding scale starting at 2.0% of income for taxpayers at or above 100% of the poverty line and phasing out to 9.5% of income for those at 400% of the poverty line. The reference premium will be the second lowest cost silver plan available in the individual market in the rating area in which the taxpayer resides.
The penalty for individuals required to purchase insurance who fail to do so will be phased in beginning in 2014 and will be fully implemented in 2016. The penalty for noncompliance is the greater of:
- The sum of the monthly penalty amounts for months in the taxable year during which 1 or more such failures occurred, or
- An amount equal to the national average premium for qualified health plans that have a bronze level of coverage, provide coverage for the applicable family size involved, and are offered through Exchanges for plan years beginning in the calendar year with or within which the taxable year ends.
The monthly penalty amounts are based upon a complex formula (what else would one expect?) and is equal to the greater of an inflation adjusted flat dollar amount, which is $95 for 2014 and increases to $625 in 2016, or 1% of income increasing to 2.5% in 2016. However, in either case, the annual family penalty cannot exceed 300% of the individual maximum penalty for the year ($1,875 in 2016).
Household income refers to the sum of the incomes of the taxpayer and all individuals accounted for in the family size required to file a tax return for that year. Income includes all tax-exempt interest and foreign earned income.
The penalty will be included on the taxpayer’s individual income tax return for each year in which the individual has not complied with the insurance coverage requirement. Although the IRS is charged with the responsibility of collecting the penalty, the law prohibits the IRS from jailing taxpayers or seizing their property if they fail to pay it.
The foregoing is a very brief overview of the health care provisions for individuals and of how your pocketbook may be impacted beginning in 2013. However, the health care provisions not yet cast in stone. In fact, this is a hot political issue, so be sure to watch for further developments.
If you have questions or would like to schedule a tax planning appointment, please give this office a call.