Part 3: Medicare Tax on Investment Income to Start in 2013
If your income is less than $125,000 a year, then you don’t need to worry about this. But if you are a high income earner, then you should really make sure you check this out.
First, there are two things you need to be aware of about taxes on investment income for 2013. One is that the current maximum tax rate on long-term capital gains is scheduled to go up to 20% instead of 15% which it now is (unless Congress decides to act). This is due to the sun setting of the Bush Tax Cuts. It has nothing to do with Obamacare – that’s already in the tax code.
The second issue is that higher income folks will also be taxed with an additional 3.8% Medicare contribution tax. (This is what’s in the Obamacare tax package.) This Medicare contribution tax will only apply to higher income earners so those people will also be in the 20% long term capital gain tax as well.
What makes the 3.8% Medicare tax kick in? It’s all going to be based upon your adjusted gross income (AGI), kind of like the higher Medicare tax on wages that I wrote about last time. The Medicare tax will kick in if your AGI exceeds:
$200,000 if you’re single or filing as head of household
$250,000 if you’re married and filing jointly, or
$125,000 if you use the married filing separate status
Before I go on, what exactly do they mean by net investment income? When I was reading the rules, I was thinking about stocks and bonds – that’s what I consider to be investment income. But for this tax, investment income also includes interest, dividends, royalties, annuities, rents, income from passive business activities, income from trading in financial instruments or commodities, and of course, gains from assets held for investment like stocks and other securities. As you can see, this category is much larger than just stocks and bonds. One thing that’s not included here are gains from assets held for business purposes – those won’t be subject to the extra tax.
So how does the tax get applied? Now this is where it gets a little funky – the 3.8% tax is going to apply to the lesser of your net investment income or the amount of your AGI in excess of your net investment income. Whew – did you feel something fly right over your head? Trust me I had to read that over a few times to figure out what that meant. And trying to word it differently didn’t always give the right meaning – so let me explain with some examples, okay?
Let’s say you’re a married couple and your joint income is $275,000. $225,000 in wages and $50,000 in investment income. You’re going to pay the 3.8% Medicare tax on the investment income that is over the $250,000 threshold. Here’s the math:
275,000 – 250,000 = 25,000 (Long version: $275,000 income – $250,000 threshold = $25,000 amount of investment income subject to the extra tax)
25,000 x .038 = $950 (Long version: $25,000 investment income subject to Medicare tax x 3.8% Medicare tax rate = $950)
So even though you had $50,000 of investment income, you only pay $950, or 3.8% of the 25,000 over the $250,000 threshold.
Now let’s say you’re single with those same numbers. Because your threshold is lower, you’d wind up paying the 3.8% tax on all of your investment income. Here, let me show you the math again:
275,000 – 200,000 = $75,000 (Long version: $275,000 income – $200,000 threshold = $75,000 amount of investment income that could be subject to the extra tax)
But $75,000 is more than the $50,000 investment so we only use the $50,000 to compute the tax.
50,000 x .038 = $1,900 (Long version: $50,000 investment income subject to Medicare tax x 3.8% Medicare tax rate = $1,900)
Now remember, I’m just computing the new Medicare tax here – I haven’t taken into account the increase in the long term capital gains rate that is also scheduled to go into effect. And I haven’t even discussed the fact that the tax rate for qualified dividends (which are currently taxed at the long term capital gains rate) is scheduled to change to the ordinary income tax rates. Those changes, if they are not addressed by Congress before the year ends, will have an even larger impact on investment income tax than the Medicare tax and will be affecting persons of all income levels.
Remember, these tax changes are scheduled for 2013 so they are not in effect for 2012. You just need to be aware of what’s coming so that you can make intelligent decisions about your investments.
Part 2: New Medicare Taxes to Start in 2013
In my last post I wrote about the penalty you could pay if you don’t have health insurance. Those taxes start in 2014. Today, I’m going to talk about the new Medicare taxes that are supposed to start next year in 2013.
First thing to know – if your income falls below $125,000 a year – you don’t even need to read the rest of this, it’s not going to affect you. (You’re welcome to stay, I like when you stay, and I just don’t want to waste your time.)
But the additional Medicare tax is really targeted at higher income earners. Starting in 2013, an additional .9% hospital insurance (I’m going to call that HI for short) will be imposed on wages in the following categories:
over $250,000 for married taxpayers filing a joint return (MFJ),
over $125,000 for married taxpayers filing separately (MFS), and
over $200,000 for singles and head of households (Single and HOH)
* Employers will begin withholding the HI tax on any wages that are in excess of $200,000. Wages earned by your spouse are not taken into account in the withholding calculations.
So let’s say you’re married and your joint income is $300,000. Your additional HI tax would be computed as follows:
300,000 – 250,000 = $ 50,000 (that’s the excess over the threshold)
50,000 x .009 = $ 450
If you are an employee at a company, your boss would be withholding the excess from your wages.
If you are an employer and you have employees that earn over the threshold, you do not have to pay the employer match like you do with the regular Medicare tax – this HI (hospital insurance) tax is for employees only. You’re still paying it with your payroll tax return because you withheld the funds, but you’re not matching the funds with your own money.
If you are self employed you have to pay the HI tax on your earnings.
What that could mean to you – Let’s say you’re married and you and your wife each earn $190,000 a year. Your combined income is $380,000 a year so you’d have to pay a HI tax of $1,170 ((380,000 income – 250,000 MFJ threshold from table above) * 0.009). Because neither of your individual incomes put you over the threshold, you won’t have withheld enough and you’ll have to pay the additional tax.
Likewise, let’s say you’re married with a non-working spouse. You make $250,000 a year. Your employer has withheld an extra $450 from your pay because you made over $200,000 – but since you’re married, your filing threshold is $250,000 so you should be getting that excess $450 back. (To get to this $450 withholding, we take ($250,000 income – 200,000 employer holding threshold) * 0.009.)
So that’s the new Hospital Insurance tax on higher wages and self employment income.
There’s also a new HI tax on investment income. Once again, that will also be on folks with higher incomes. I’ll be tackling that in my next post.
Note from Editor: Since I am a numbers guy, I added a chart to demonstrate the amount of HI Tax you could incur. Because the 0.9% is a flat rate (meaning it never changes), for each increase of $1,000 in income, the HI tax will increase by $9. Here I am going to show increments of $5,000 which will result in $45 increases.
|Hospital Insurance Tax for High Income Earners|
|HI Tax Rate||Excess Over Threshold Amount (The amount being taxed)||Total (HI) Tax|
Part 1: How Much is the Penalty for Not Having Health Insurance?
In less than an hour after the Supreme Court announced their ruling that Obamacare was Constitutional, my phone started ringing with people asking me questions. I’ll be honest – I wasn’t prepared for that. But the one caller that really got to me said, “Make it simple so that I can understand it.” Her big question was – How much is it going to cost me? So for her – I’m going to try my best to explain it.
Today I’m going to talk about the mandate part – that is – how much tax you’re going to have to pay if you don’t have health insurance. (And yes, it is a tax because the Supreme Court says so. This is a point people argue about but today I’m skipping to the math.)
First thing to know: You aren’t required to have health insurance until 2014, so if you’re reading this in 2012 you’ve got time to figure things out. The actual tax won’t have to be paid until the next tax season which would be in April of 2015. That should give you a time line to work with.
The second issue is – who’s going to have to pay? If you read the law it says non-exempt US citizens and legal residents. This is another part where everybody goes all nutso about illegal aliens not having to pay the health insurance tax. While that’s a genuinely valid concern, I’m not going to touch that today. I’m looking at those of us who are citizens and legal residents – what are we doing? Fair enough for now?
Okay – so what does that “non-exempt” part mean? Here, anybody whose income is below the filing threshold is exempt from having to pay the tax for not having health insurance. Those “non-exempt” people are the ones who have to pay. Filing threshold is the amount of money you make where you have to file your income taxes. Say you’re single, for 2012 the IRS says the filing threshold is $9,750 so if you make less than that you don’t have to have insurance. If you’re married, the filing threshold is $19,500 for 2012. The filing threshold usually goes up a little bit every year so it will be different for 2014, but probably not by much.
So those incomes are pretty low, so what happens to the single person who makes $25,000 a year?
This is where it gets kind of tricky. They compute it as a formula. For 2014 the penalty for not having health insurance will be $95 or 1% of your income over the filing threshold – whichever is greater.
So let’s look at the single guy who makes $25,000 a year. Take his income of $25,000 and subtract the filing threshold (I’m going to use 2012 numbers because I have those) 25,000 – 9,750 = $15,250. Then you multiply that by one percent or .01. That gives you $152.50. Since the $152 is a bigger number than the $95, that’s what he’d pay.
Are you still with me? Now if the married family made the same amount, they’d pay less because they have a different filing threshold. The formula would look like this:
25,000 – 19,500 = $ 5,500 (income minus threshold = excess household income)
5500 x .01 = $ 55 (excess household income times percentage = tax)
Oopsies – except here the number is less than $95, so the family would have to pay the $95 minimum anyway. The $95 is a de minimis amount for those of you who may be involved in law or mathematics.
So that’s how you compute it for 2014. But in 2015, the numbers go up. In 2015, the minimum is now $325 and the percentage of excess household income goes up to 2%.
(Okay, excuse the opinion here but who in the heck called it excess household income? If you’re married and only making $25,000 a year, you ain’t got any excess household income. Just sayin’. I understand the tax, I understand what they’re doing, but excess household income was a stupid choice of words! Okay I’m done.)
Let’s stick with our single guy making $25,000 a year. (It would be nice if he got a raise in real life, but it keeps the math easier for this if he doesn’t.) I’m not changing the thresholds either, only the healthcare tax.
Now the formula looks like this:
25,000 – 9,750 = $ 15,250
15,250 x .02 = $305 But now the minimum health insurance payment is $325 so the bite is a little harsher.
For 2016 – the minimum penalty will be $695 or 2.5% of your income. Using the same numbers from before:
15,250 x .025 = $ 381
So by 2016, our single guy will be paying a $695 tax for not having health insurance.
Now just to put a different perspective on it, let’s say our young man here gets a nice promotion and is making $100,000 by 2016, what happens to him then?
100,000 – 9,750 = $90,250 excess household income
90,250 x .025 = $2,256 that’s the tax he’ll pay for not having health insurance.
So if you want to get a good estimate of what your tax bill will be for not having health insurance, you’ll need to follow three steps:
1. Figure your excess household income
your income - your filing threshold = excess household income
2. Take your excess household income and multiply it by the percentage in the table for whatever year you’re looking at.
3. Compare the number you came up with to the minimum amount listed in the table. You’re going to pay the higher amount.
Here’s the table:
Year minimum penalty percentage excess household income
2014 $ 95 1.0%
2015 $325 2.0%
2016 $695 2.5%
After 2016 it will be indexed for inflation.
Filing thresholds for 2012 (that’s the latest I’ve got)
Head of Household: $12,450
Married Filing Jointly: $19,500
(Note: the filing thresholds are higher for people over 65 – but if you’re over 65 you should qualify for Medicare and this won’t be an issue for you. Also, these amounts go up by $3,800 (the dependent exemption amount) per 1st and 2nd child.
On Friday I’ll address some of the other taxes associated with the Health Care Act. I think I’ve already thrown enough math at you for one day now. Besides, this stuff makes me dizzy!