Why The New Medicare Tax May Cost You More Money

Current Medicare Tax

Currently taxpayers pay 1.45% Medicare Tax on their earned income. This is from a W-2 for employees and net-income from self-employed individuals. The employee pays this amount and the employer matches it, therefore they remit 2.9% to the government. A self-employed individual is considered to be both the employer and employee and therefore currently pays 2.9% Medicare Tax.

New Medicare Tax

This tax is effective for taxpayers with modified adjusted gross income as follow:

  • Married Filing Joint $250,000
  • Single $200,000

The current Medicare tax is still in effect, taxes however are going up on the higher income earners.  Beginning in 2013 high income earners will be subject to an additional .9% medicare tax on earned income. You also may be subject to a new 3.8% tax on investment income.  This was enacted as part of the health care reform legislation in the Affordable Care Act. This tax is known as the Unearned Income Medicare Contribution Tax. This tax is assessed against passive income. Passive income here means:

  • Interest
  • Dividends
  • Capital Gains
  • Annuities
  • Rents
  • Royalties
  • Passive Income from Flow Through entities such as Subchapter S corporations
  • Income not subject to this tax includes:
  • Municipal Bond Income
  • Capital gains excluded from the sale of a Principal Residence
  • Distributions from IRA’s, 401(k)’s, pensions and profit-sharing plans

Tax Planning Ideas

For taxpayers that may be subject to this new tax here are some planning ideas:

  • Maximize contributions to 401(k) plans, IRA’s and other retirement plans
  • Consider investing in tax-free municipal bonds
  • Adjust payroll withholding to cover the increase in tax

ACTION ITEM: Taxpayers need to understand the New Unearned Income Medicare Contribution Tax.

Tom Scanlon, CPA, CFP® has over thirty-five years experience in public accounting with an extensive background in the areas of financial, tax and estate planning.

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