Many seniors breathe a sigh of relief upon reaching age 65—and qualifying for Medicare. Private health insurance is a major household expense for those aged 50-64, and Medicare coverage is significantly cheaper. Even so, some seniors are surprised to learn that they could be subject to additional out-of-pocket Medicare premiums (often called a “Medicare Stealth Tax”) if their Modified Adjusted Gross Income (MAGI) exceeds certain breakpoints. Medicare assesses an “Income-Related Monthly Adjustment Amount” (IRMAA)—essentially a surcharge for higher-income retirees. Depending on household income, this surcharge adds between $700 and $4,200 per beneficiary, per year:
Understanding Medicare’s Income-Related Premium Adjustments
The table above summarizes the IRMAA surcharge for 2020, at different breakpoints of MAGI (future income brackets will be indexed to inflation). Importantly, IRMAA applies if MAGI is even $1 above the breakpoints outlined above. Further complicating matters, IRMAA is calculated on a two-year lag. This means that the IRMAA for 2020 is calculated based on an enrollee’s 2018 Modified Adjusted Gross Income. Therefore, even people who are two years away from Medicare enrollment could be setting themselves up for an IRMAA surcharge, if their income is skewed higher by one-time items such as the sale of a property or business. Among the many other age-related milestones which are important to retirement planning, wealthy seniors should scrutinize their annual income beginning in the year they turn 63.
Wealthy Retirees are More Vulnerable to the Medicare “Stealth Tax”
While fewer than 10% of Medicare enrollees are subject to IRMAA, those with large retirement portfolios are more likely to be snared , since their income can fluctuate widely from year to year (due to timing of realized capital gains, or commencement of required minimum distributions from IRA accounts). Therefore, Medicare enrollees on the cusp of an IRMAA breakpoint may want to limit discretionary investment income in order to avoid triggering this additional charge.
4 Ways to Lower Your MAGI…and Your Medicare Premium
What are some ways to limit discretionary investment income, particularly this late in the year?
- Postpone Capital Gains: To the extent that investors have discretion on the timing of asset sales in taxable accounts, pushing them a few months back (into the subsequent tax year) can keep MAGI below a critical breakpoint.
- “Harvest” Capital Losses: Similarly, selling assets with an unrealized loss pulls forward a capital loss which can be used to offset capital gains realized earlier in the year. Moreover, if total realized losses exceed total realized gains, up to $3,000 per year of these net capital losses can be deducted against ordinary income (further reducing MAGI).
- Maximize Deductions: While the 2017 Tax Reform raised the standard deduction (and reduced the value of certain itemized deductions), those who are charitably inclined can still benefit from itemization by bunching contributions (particularly in-kind contributions of appreciated stock) in alternating tax years. For example, a couple who typically donates $2,000 per year to charity could instead make a one-time donation of $20,000 to a donor-advised fund, which would allow them to immediately itemize the deduction in the current tax year, yet dispense the funds gradually to their desired charities over many subsequent years. Additionally, seniors who are still working can avail themselves of more generous “catch up” contributions limits to company-sponsored retirement accounts, which can reduce MAGI in the years immediately preceding retirement.
- Consider a QCD: Another charitable option for investors aged 70.5 and above (i.e. those otherwise obligated to take taxable required minimum distributions from their IRA accounts) is a Qualified Charitable Distribution (QCD). A QCD allows the IRA holder to satisfy their required minimum distribution (up to $100K per tax year) by sending funds directly from their IRA account to a qualified charity. Unlike a regular RMD, the QCD is not counted as taxable income to the IRA account holder. Moreover, a QCD does not require the taxpayer to itemize deductions (i.e if they would otherwise benefit from a larger standard deduction).
Even with an IRMAA surcharge, Medicare is still a fantastic value for seniors. But the Medicare “Stealth Tax” is just one of many potential pitfalls in the tax code that a qualified, tax-conscious investment advisor can help mitigate.
Learn more about the ways that Bristlecone can optimize your portfolio’s tax-efficiency over time
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