HEALTH CARE ACT TAX OVERVIEW INDIVIDUALS. Expanded Medicare taxes and other changes make planning critical

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1 HEALTH CARE ACT TAX OVERVIEW INDIVIDUALS Expanded Medicare taxes and other changes make planning critical 1

2 The agenda The health care act s tax impact on individuals Medicare tax increase on earned income Withholding issues Minimizing the additional tax New Medicare tax on investment income Income subject to the NIIT Income exclusions Minimizing NIIT Other changes: Increased threshold for medical expense deduction New FSA limit Individual mandate 2

3 MEDICARE TAX EARNED INCOME Additional Medicare tax now applies to higher-income earners 3

4 Medicare tax increases FICA wages are subject to 2.9% Medicare tax 1.45% paid by employer 1.45% withheld from employee wages Self-employed pay both portions, but they can deduct employer portion for income tax purposes Starting in 2013, taxpayers with earned income over $200,000 per year must pay additional 0.9% Medicare tax on excess earnings $250,000 for joint filers $125,000 for married filing separately 4

5 Withholding issues 0.9% Medicare tax doesn t include a corresponding employer portion Employers must withhold additional tax Beginning in pay period in which wages exceed $200,000 for calendar year without regard to: Employee s filing status His or her income from other sources Employer could be required to withhold additional tax even if you don t owe it TIP: You can t ask your employer to stop withholding the tax, but you can claim a credit for it on your tax return. 5

6 Additional tax might not be withheld even if you are liable for it Two scenarios 1. If you and your spouse file jointly and neither earns more than $200,000, but together wages exceed $250, If you have two jobs and neither job pays wages in excess of the threshold TIP: To avoid interest and penalties, use Form W-4 to request additional income tax withholding. Or make estimated tax payments to make up the shortfall. 6

7 If employer under- or overwithholds Employer can collect underpaid amounts from wages Employer can reimburse overpaid amounts before end of year 7

8 Minimizing the additional tax 8

9 Two strategies may help Time income Can help if wages or self-employment income varies greatly from year to year, or you re close to the threshold for triggering additional Medicare tax If an employee, you may be able to time When you receive a bonus When you exercise stock options If self-employed, you may be able to time When you purchase new equipment When you invoice customers 9

10 Two strategies may help Revisit S corporation salary vs. distributions If a shareholder-employee of an S corporation, consider adjusting how much you receive as salary vs. distributions TIP: There s more to this decision than simply the salary/distribution split. Consult your tax advisor for an analysis of your situation. 10

11 MEDICARE TAX INVESTMENT INCOME How a new Medicare tax will affect investment income 11

12 New Medicare tax on investment income 3.8% tax on unearned income of higher-income taxpayers Beginning in 2013, NIIT will be applied to net investment income To the extent that MAGI exceeds same threshold amounts that apply to 0.9% tax on earned income Income subject to the NIIT For NIIT purposes, investment income may include (but isn t limited to): Interest Dividends Capital gains Rental and royalty income 12

13 Income subject to the NIIT Investment income May also include income from: Nonqualified annuities Businesses involved in the trading of financial instruments or commodities Businesses that are passive activities to you you don t materially participate in the business 13

14 Calculating NIIT Certain expenses that can be allocated to investment income are deducted from that income Deductible expenses include: Interest expense Advisory and brokerage fees Expenses related to rental and royalty income State and local income taxes Must report and pay the NIIT on income tax return If you meet MAGI threshold and have net investment income, NIIT equals 3.8% of the lesser of: The amount by which your MAGI exceeds the threshold, or Your net investment income 14

15 Income exclusions Income from interest, dividends, annuities, rents and royalties is excluded from investment income if it s derived in ordinary course of a trade or business Cannot be a passive activity with respect to you or trading in financial instruments or commodities Investment income doesn t include operating income from an active business or interest on tax-exempt bonds All of your net investment income may not be subject to the NIIT. 15

16 Income exclusions Income distributions from these retirement or similar plans are also excluded: Qualified pension, stock bonus or profit-sharing plans Qualified annuity plans and tax-sheltered annuities Traditional IRAs and Roth IRAs Deferred compensation plans Distributions from such plans are taken into account when determining MAGI, which could trigger NIIT on net investment income Gain on the sale of a principal residence may be excluded 16

17 Minimizing NIIT Time gains and losses May help avoid hitting the NIIT threshold May defer NIIT liability Consider installment sales Will defer gain over several years Keeps you under the threshold triggering NIIT Not all asset sales are eligible for installment treatment All of your net investment income may not be subject to the NIIT. 17

18 Gift assets to family members Transfer highly appreciated assets Family members can sell the assets Your family as a whole will save NIIT Especially advantageous if the family member is subject to a lower long-term capital gains rate Depending on your income, you may be subject to a 20% rate 15% rate still applies to most tax brackets 0% long-term capital gains rate applies to those in 10% and 15% brackets All of your net investment income may not be subject to the NIIT. TIP: Make sure family members under age 24 won t be subject to the kiddie tax. 18

19 Execute Roth IRA conversions Converting will remove future distributions from MAGI May reduce future exposure to the NIIT Converted amounts are taxable in year of conversion Will be included in MAGI May possibly trigger NIIT in conversion year Does it make sense? Depends on whether conversion or future distributions could trigger the NIIT Other factors: age, ability to pay the tax, current tax bracket and expected tax bracket at retirement All of your net investment income may not be subject to the NIIT. 19

20 Increase retirement plan contributions To the extent you can make pretax or deductible contributions to retirement plans, you can: Reduce your MAGI Possibly reduce or eliminate the NIIT Make sure family member under age 24 won t be subject to the kiddie tax. All of your net investment income may not be subject to the NIIT. TIP: If you re not currently contributing up to the applicable annual limits, consider increasing your retirement plan contributions. 20

21 OTHER CHANGES Changes that could affect your taxes in 2013 and beyond 21

22 Increased threshold for medical expense deduction Beginning in 2013, health care act raises threshold for unreimbursed medical expenses from 7.5% of adjusted gross income to 10% Through 2016, increase is waived for individuals age 65 or older Consider bunching nonurgent medical expenses in alternating years Controllable expenses may include: Prescription drugs Eyeglasses and contact lenses Hearing aids Dental work Elective surgery 22

23 New FSA limit Beginning in 2013, employers can t set a limit exceeding $2,500 Adjusted for inflation in future years Consider an HSA if concerned about the lower FSA limit Must be covered by an HDHP Withdrawals for qualified medical expenses are tax-free Can bear interest or be invested Can grow tax-deferred, much like an IRA Balances carry over from year to year If you also have an HSA, the FSA is limited to funding certain permitted expenses TIP: HSAs allow a way to do some after the fact Medicare tax planning. 23

24 Individual mandate Mandate requires almost all Americans to purchase health insurance by 2014 or pay a penalty Individuals who aren t insured must weigh the penalty against the cost of obtaining health coverage Phased in over three years Reaches a maximum of 2.5% of family income in 2016 TIP: If you have adult children who are no longer on your policy, but don t have coverage themselves, make sure they are aware of the penalty. 24

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