Are Your Medicare Taxes Put to Good Use?

paying for medicare tax-payer dollars

Funding a federal healthcare program comes at a price — ideally one that is fair to all its constituents. Medicare taxes have been in effect since 1966 with additional taxes added over the years. The goal was to increase funding for Medicare and to allow Americans to contribute according to their means. How much are you paying?

Medicare Taxes Everyone Pays

Funding for Medicare was built into the law that created the program in 1965. The Medicare tax applies to your earned income. The tax does not apply to your employer’s health plan premium or other pre-tax deductions. It also did not apply to capital gains and other investment income. Those taxes go into the Medicare Trust Fund, the fund that pays for your Part A services.

Back in 1966, that tax was only 0.7% but today it is 2.9%. How much you pay personally will change based on whether you are employed by someone else or by yourself.

  • Employed by someone else: You pay 1.45% and your employer pays the remaining 1.45%, referred to as a matched contribution.
  • Self-employed: You pay the whole 2.9% yourself. If you do not pay these taxes to the government quarterly, you could face late penalties.

People who pay 40 quarters (10 years) in Medicare-taxed employment will get their Part A premiums for free. Your investment now pays off in the future.

The Additional Medicare Tax

The Affordable Care Act (ACA) created the Additional Medicare Tax. It added an extra 0.9% in Medicare taxes to people who had incomes above a certain amount. Simply put, people earning more would contribute more.

The extra tax only applies towards any earned income (the modified adjusted gross income, a.k.a., MAGI) above a certain limit and is not applied toward any investment income. Of note, only you pay this tax. Your employer makes no contributions.

  • Married filing jointly: $250,000
  • Married filing separately: $125,000
  • Everyone else: $200,000

To show how it works, consider a single person who earns $250,000 per year. They would pay the usual 2.9% Medicare tax up to $200,000. They would pay the usual Medicare tax AND the additional Medicare tax (2.9% + 0.9% = 3.8%) for the remaining $50,000 of their income.

Net Investment Income Tax

The Affordable Care Act also created the Net Investment Income Tax (NIIT) to tax income not otherwise included in the other taxes. The 3.8% tax applies only to people who had investment income and who also had an income level above a certain limit (the same MAGI limits for the Additional Medicare Tax).

  • Married filing jointly: $250,000
  • Married filing separately: $125,000
  • Everyone else: $200,000

However, the tax only applies to any investment income they had. Those investments could include certain annuities, capital gains, dividends, rent, and royalties. NIIT specifically does not apply to wages, self-employment income, alimony, pensions, retirement account distributions, Social Security benefits, tax-exempt interest, or unemployment benefits.

To show how it works, consider a single person who earns $250,000 per year who also had $50,000 in investment income. They would pay the same Medicare tax and additional Medicare tax as shown above for the $250,000 part of their income. However, they would also pay 3.8% on the $50,000 of their investment income.

Are Your Taxes Put to Good Use?

Over time, the consensus is that you get far more in health services than what you pay in Medicare taxes. The problem is that Medicare insolvency is approaching. How long will Medicare have enough money to cover its current offerings?

The goal of the Affordable Care Act was to extend the life of the Medicare Trust Fund, and it worked. In 2009, the year before the ACA was passed, insolvency was expected by 2017. Passage of the law postponed it to 2029.

Since then, the United States has had fiscal crises from the housing bubble to the great recession to the COVID pandemic. Laws have been passed that changed Medicare reimbursements, causing the Medicare Trust Fund to be depleted faster. In 2022, Medicare insolvency is expected by 2028. At that time, Medicare will only be able to afford 91% of the services it does today.

The GOP wants to cut Medicare funding but that is not the answer. A strict dollars and cents approach does not address the crisis at hand, that health care could be taken away care from millions of people who rely on it. Instead, we need to find a way to build up Medicare — to make it more efficient, to focus on value-based rather than volume-based care, to increase preventive care so that less needs to be spent on chronic diseases, and to cut back on fraud and abuse. There’s so much that can be done to fix the system. Someone needs to be brave enough to take the first steps.

 

References

The 2022 Annual Report of the Boards of Trustees, Federal Hospital Insurance and Federal Supplementary Medical Insurance Trust FundsThe Boards of Trustees, Federal Hospital Insurance and Federal Supplementary Medical Insurance Trust Funds. https://www.cms.gov/files/document/2022-medicare-trustees-report.pdf

Medicare: Insolvency Projections. (2021). Congressional Research Service. https://sgp.fas.org/crs/misc/RS20946.pdf

Topic No. 559 Net Investment Income Tax. IRS.gov. https://www.irs.gov/taxtopics/tc559

Topic No. 560 Additional Medicare Tax. IRS.gov. https://www.irs.gov/taxtopics/tc560

Topic No. 751 Social Security and Medicare Withholding Rates. IRS.gov. https://www.irs.gov/taxtopics/tc751

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