The Affordable Care Act: New Tax Changes that Could Affect Taxpayers
September 25, 2013
The Patient Protection and Affordable Care Act, sometimes referred to as "Obamacare," gradually phases in new taxes on individuals, employers and insurance companies. Below, learn more about some of the new tax provisions likely to impact individual investors.
- Increased Medicare tax for high earners. An additional 0.9% Medicare tax will be levied on earned income over $200,000 for single filers and over $250,000 for married couples filing jointly. That means a new marginal Medicare tax of 2.35% on earned income for high earners (the current employee rate of 1.45%, plus 0.9% for amounts over the threshold).
Examples of the increased Medicare tax1
Single filer earning $300,000 per year:
($100,000 over threshold) x (0.009) = $900 extra tax
Married couple filing jointly, earning $300,000 per year:
($50,000 over threshold) x (0.009) = $450 extra tax
Employers are required to begin the additional withholding when your FICA wages exceed $200,000, regardless of your filing status. If you file jointly and your wages are below $250,000, you can claim a credit for the excess withholding on your tax return.
- Surtax on unearned income. The Affordable Care Act will add a 3.8% surtax on net investment income over the modified adjusted gross income (MAGI) threshold of $200,000 for single filers and $250,000 for married filers. Net investment income includes interest, dividends, royalties, rental income, gross income from a trade or business involving passive activities, and net gain from disposition of property (other than property held in a trade or business). With the new surtax, long-term capital gains and qualified dividends are taxed at a top rate of 23.8%, while non-qualified dividends, interest and rental income are taxed at a top ordinary rate of 43.4%. This does not include the "stealth tax," related to the phase-out of personal exemptions and itemized deductions for high earners, or the marginal rate "marriage penalty" that's set to come back for tax years beginning after December 31, 2012.
Examples of the unearned income surtax1
Single filer earning $100,000 in ordinary wages and $25,000 in investment income = $0 extra tax; does not exceed $200,000 threshold
Single filer with $100,000 in ordinary wages and $125,000 in investment income = ($25,000 over threshold) x (0.038) = $950 extra tax
Married couple with $240,000 in ordinary wages and $60,000 in investment income = ($50,000 over threshold) x (0.038) = $1,900 extra tax
Married couple with $0 in ordinary wages and $260,000 net investment income = ($10,000 over threshold) x (0.038) = $380 extra tax
- Modified threshold for claiming medical expense deductions. Obamacare increases the adjusted gross income (AGI) threshold for claiming an itemized deduction for medical expenses from 7.5% to 10%. However, the 7.5% threshold will continue to apply through 2016 to individuals 65 and older and their spouses.
- $2,500 limit on Health Care FSA contributions. The Affordable Care Act limits contributions to health care flexible spending accounts (HCFSAs) to $2,500 per year, which is lower than previous years. This lower limit could potentially increase an individual’s tax liability, if they were setting aside more than $2,500. The dollar amount will be inflation-indexed after 2013.
Note that both the additional Medicare tax on wages and the surtax on net investment income under Obamacare are subject to estimated tax penalties if you fail to pay withholding or quarterly payments, so plan accordingly. For more information, see the IRS FAQ pages for both the Net Investment Income Tax and Additional Medicare Tax.
Penalty for failing to have insurance. The penalty for the uninsured starts at $95, or 1% of taxable income in 2014, whichever is greater. In 2016, it will increase to the greater of $695 or 2.5% of taxable income. Unlike income levels subject to increased Medicare taxes, which are not indexed for inflation, the penalty for failure to insure will be indexed to inflation. Subsidies will be made available to those who can't afford insurance.
For additional details on the Affordable Care Act, see the implementation timeline produced by the Democratic Policy Committee of the U.S. Senate.
1. All other taxes still apply regardless of amount or filing status.
The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized advice.
All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third party providers are obtained from what are considered reliable sources. However, accuracy, completeness or reliability cannot be guaranteed.
This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice. Where specific advice is necessary or appropriate, Schwab recommends consultation with a qualified tax advisor, CPA, financial planner or investment manager.
Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.