2013 Medicare Tax Increase, Health Care Account and Medical Expense Changes

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With a host of tax changes set to come into effect next year thanks to the expiring Bush-Obama tax cuts and new “Obama-care” health care related taxes, it can be hard to keep up with all that’s happening. But these Medicare and employer health care related tax changes in particular, will hit close to home for many:

Medicare Employment Tax Increases

President Obama’s healthcare reform will result in a brand new 2013 medicare tax levy, classified as the Unearned Income Medicare Contribution. The Additional Medicare Tax applies to individuals’ wages, other compensation, and self-employment income over certain thresholds; employers are responsible for withholding the tax on wages and other compensation in certain circumstances

The additional medicare tax is an 0.9% levy on top of the current 2.9% Medicare tax, and will only apply to those earning more than $200,000 ($250,000 for married couples). The employer’s portion of the Medicare tax (1.45%) remains unchanged. Self-employed persons, who are already liable for both the employee and employer component of the medicare tax, will pay 3.8% on earnings over the “higher income earner” thresholds. The tax increase supports the Medicare Hospital Insurance trust fund, which pays hospital bills for beneficiaries who are 65 and older or disabled.

It should be noted that the $200,000/$250,000 “higher income earner” thresholds aren’t indexed for inflation, so it is likely that more and more people will be subject to the higher tax in coming years. Similar to the issue we face with the Alternative Minimum Tax (AMT).

The IRS requires that the employer withhold the additional medicare tax on wages or compensation it pays to an employee in excess of $200,000 in a calendar year. Further, earnings for Americans and permanent residents (Green card holders) living abroad are subject to the additional medicare tax withholding if they report earnings in excess of the $200,000/$250,000 withholding threshold

Medicare Tax Extended to Investment Income

Under current law, the Medicare tax only applies to wages and self-employment income. Beginning next year a new Medicare tax will, for the first time, be applied to investment income (dividends, rental income, capital gains from asset sales). Like the above unearned income medicare tax, a 3.8% tax will be imposed on net investment income of “higher income earners. ” I.e. those single taxpayers with adjusted gross income (AGI) above $200,000 and joint filers with AGI over $250,000 (unindexed). However, the new tax won’t apply to investment income in tax-deferred retirement accounts such as 401(k) plans.

So if you are a higher income earner and have substantial amount of investments, you could have a significantly higher tax burden next year.

Lower Limits on Health Care Accounts

In 2013, the cap on tax advantaged health-care flexible spending accounts (FSA) will fall to $2,500, from the current $5,000 level. This is bad news for workers who rely heavily on their FSA to offset other earned income. The new health care laws also create stricter rules about how the dollars you put away, tax free, can be used to pay for medical related expenses. The FSA limit will be adjusted annually to account for inflation and is per employee, regardless of whether you cover just yourself or your full family. Because it is per employee, if a husband and their spouse both work they can both claim the $2,500, for a total household limit of $5,000.

Higher Thresholds for Claiming Medical Expenses in Your Tax Return

If you itemize deductions on your tax return you can currently deduct un-reimbursed medical expenses that are greater than 7.5% of your AGI (Adjusted Gross income). This will change in 2013, when the threshold is raised to 10%. This is a significant blow for wage earners with large medical expenses. But if you’re age 65 or over before the end of the year the deduction is claimed the threshold remains at 7.5% of adjusted gross income through 2016.

Sources : Yahoo.com, IRS

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4 Comments on "2013 Medicare Tax Increase, Health Care Account and Medical Expense Changes"

[…] income (long term capital gains, dividends) rise to 20% from 15%. This does not inclue the Obama-care (health care) related taxes on investment income for higher income […]

[…] additional 3.8 percent Medicare tax also will be imposed on unearned income (income not earned from a trade or business or subject to […]

Jeff
Clearly the administration is trying to make investing a bad idea by creating new taxes. But let me get this straight for the new taxes on investment income. Through year 2012, the maximum federal income tax rate on long-term capital gains and dividends is only 15 percent. Starting in 2013, the maximum rate on long-term gains is scheduled to rise to 20 percent and the maximum rate on dividends is scheduled to rise to 39.6 percent as the Bush tax cuts are set to expire. So in addition, beginning in 2013, all or part of the net investment income, including long-term capital gains and dividends, received by higher-income taxpayers may be hit with an additional 3.8 percent “Medicare Tax.” Therefore, the maximum federal rate on long-term gains for 2013 and beyond will actually be 23.8 percent (versus the current 15 percent) and the maximum rate on dividends will be 43.4… Read more »
MikeG
You’re assuming the Bush era tax cuts are going to expire. Obama has compromised on many things over the past couple of years. I imagine we’ll see an 11th hour ‘compromise’ that extends them yet again. Investors will invest regardless of what the tax burden is. Even if it was 50% or more, its still the best bet for growing wealth quickly. You’re not going to become a billionaire by letting your millions accrue interest in a savings account. The real concern should be where investors are going to put their money. As the tax burden gets too high (what they perceive as), they will look for the best bargain that they can stomach. More and more this means developing nations, major cities in China, etc. Which in of itself isn’t bad, its just difficult to get money to come back once its over seas.
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