After surviving the rough seas of the first year of the Affordable Care Act, we are starting to see more people trying to plan better since it seems here to stay. For qualifying families, there is a premium tax credit that can help reduce the cost of the monthly insurance premiums. However, there are several moving pieces that can greatly affect your ability to qualify for this credit.
In order to receive the credit, you must have purchased your insurance through the marketplace. A problem to be aware of this year applies if you received the credit last year on your 2014 income tax return, and just renewed your policy for 2015 using carryover information. The problem lies in that the credit is calculated starting with the second-lowest cost silver plan based on where you live, or the benchmark plan. In South Dakota, our benchmark plan changed between this year and last year, not only in cost, but also in company. If you just “re-upped” your plan from last year, your answer may be totally different this year. Much like Medicare, it is recommend that each year you need to re-evaluate your medical insurance options.
The other item to be aware of is any advance credit received will be reconciled when you file your return. If you got more than you should have, you will have to pay it back with your return. Conversely, if you didn’t get as much as you then qualified for, you will receive it as a refundable credit when you file your return. We have a couple of examples of disaster stories and ways you can avoid these issues.
In our first story, we have Jim and Jane who have purchased their insurance through the marketplace and received an advance premium tax credit each month. When it came time to file their return, they had options of funding individual retirement accounts (IRA) or even health savings accounts (HSA). When we reconciled their income for the year and ran the calculations for the advance credit they received, they initially had to pay back over $3,000 of premium tax credit because their income was over the limits and they did not qualify for the credit at all. Instead they funded their IRA accounts for a total of $11,000, which was enough to bring their income back down to the levels it was the year before which was used to determine their original credit. So, Jim and Jane have now saved over $5,000 of tax dollars for funding their own IRA accounts due to the tax savings and the advance credit savings.
In our second story, we have Bill and Betty who are both 63. They have retired and are enjoying life. They are drawing Social Security and have some retirement payments each year. However, they are not old enough to be on Medicare, so they purchased an insurance plan through the marketplace, receiving an advance premium tax credit due to normal income levels. This year, they decided they wanted to get a second place somewhere warmer, so they withdrew some extra money from a retirement account for the down payment. This withdraw increased income approximately $30,000 due to the extra funds taken out, and also increase the taxability of their social security payments because of their increased income levels. The cumulative tax effect of this simple act caused them a tax bill of over $15,000. This is because they owed more tax on the new taxable portion of their Social Security, they owed tax on the extra withdrawal itself, and they owed back approximately $6,000 of premium tax credit received for which they no longer qualified.
Long story short, this can be a very good benefit for some taxpayers, but there is nothing easy about the decision of what is best. Consult your Ketel Thorstenson advisor with any questions.