The IRS has Spoken…..

…. or at least added more confusion to the mix.

I’m not going to be able to address this in one post, so I’ll start with a link:

IRS Revenue Procedure 2014-41 — PDF at http://www.irs.gov/pub/irs-drop/rp-14-41.pdf

“26 CFR 601.105: Examination of returns and claims for refund, credit, or abatement;
determination of correct tax liability.”

This addresses the issue raised back in my post, “Figuring your Household Income (Part Two)“:   How to calculate AGI and premium tax credit when you are self-employed and also eligible for the self-employed health insurance deduction.   As I pointed out “This is one area where the present wording of the law seems to provide an extra benefit for the self-employed, if in fact you can use the full cost of the premiums reduce AGI for purposes of subsidy eligibility.”

I commented, “The double-benefit from being able to deduct 100% of health insurance premiums in order to reduce AGI, and then used the same deduction to qualify for a substantial tax credit seems to fly in the face of the way the tax law usually works. Generally the laws are written to prevent taxpayers from applying the same expense to benefit in multiple ways.”

And I gave some advice:   “The safest choice for self-employed individuals who are unsure of subsidy eligibility is to buy insurance through an exchange, opt to pay the full cost premium cost, with a plan of maximizing tax deductions with the possibility of a substantial tax refund down the line. That way you will not be caught with a huge tax bill in 2015 because your calculations were off the mark.”

And, more important:

“Above all. Do not rely on this blog or any other for tax advice!!!  It’s possible that the very best investment you can make for your business in 2014 will be to hire a tax professional to help guide you through this maze.”

Now the IRS has added its explanation as to how you can do this calculation, maybe.  If you happen to be self-employed as an accountant or software programmer, you might be able to figure this out   The rest of us may feel very grateful that we do have health insurance under ACA, because we may need to see a doctor to treat the headache we are all going to get from trying to do the mathematical gymnastics IRS suggests.   More to come– in the meantime, you can read this yourself at the link above.

Two other new ACA related docs to peruse while you are at it:

Revenue Procedure 2014-46   (provides the 2014 monthly national average premium for qualified health plans that have a bronze level of coverage for taxpayers to use in determining their maximum individual shared responsibility)

Revenue Procedure 2014-37 (provides the methodology to determine the applicable percentage table in IRS § 36B(b)(3)(A) used to calculate an individual’s premium assistance credit amount.)

 

The evolution of MAGI

I have wrestled somewhat with the ACA’s definition of MAGI (modified adjusted gross income) for purposes of determining eligibility for the premium tax credit. In fact, that is what led me to create this blog.  The information I found on the internet was contradictory and confusing, and even the tax professionals and insurance agents I consulted seemed confused.

Part of the confusion stems from the fact that the tax code uses the phrase “modified adjusted gross income” to mean different things for different purposes.  The term is defined for purposes of the Affordable Care Act in 26 USC 36B.  Various other definitions can be found in these sections:

• 26 USC 24 (Child Tax Credit)
• 26 USC 25A (Hope and Lifetime Learning Credits)
• 26 USC 36 (First Time Homebuyer Credit)
• 26 USC 36A (Making Work Pay Credit)
• 26 USC 86 (Taxable portion of Social Security Benefits)
• 26 USC 135 (Interest from US Savings Bonds used to pay higher education expenses)
• 26 USC 219 (Retirement Savings)
• 26 USC 221 (Interest on Education Loans)
• 26 USC 408A (Roth IRAs)
• 26 USC 469 (Passive Activity Loss Limitation)
• 26 USC 1395r (Setting Medicare Premium Rates)

To add to the confusion, there are two other sections of the Affordable Care Act which also provide their own, different definitions of MAGI:

• 26 USC 1411 (Medicare Tax on High Level  Investment Income)
• 26 USC 5000A (Requirement to Maintain Minimum Essential Coverage)

Figuring your household income (Part Two)

The starting point of determining your household income for purpose of the ACA tax credit is your adjusted gross income AGI).  As explained in my previous post (Part One), your household income is the combination of the AGI of the primary taxpayer and any other family  members with incomes large enough to trigger tax liability, together with any tax-exempt income from interest, social security, or foreign earnings.

AGI is defined in Internal Revenue Code section 62.  It is the amount remaining after subtracting various specified deductions from  your gross income (or the total of all taxable forms of income). Because these various deductions can potentially reduce your income by thousand of dollars, it means that you or your family may be eligible for the premium assistance tax credit even if you have total income well above the 400% federal poverty level.

Here are some of the most common deductions enumerated in Section 62 which may effectively reduce income. Many individuals or families whose household incomes fall above the 400% FPL subsidy limits may find that they can effectively reduce their AGI and qualify for significant credits toward their insurance by simply taking advantage of deductions they may not have fully utilized in the past.

Figuring your household income (Part One)

One of the first questions you will need to answer to purchase insurance on or off the new exchanges is your income.  You can skip this question if you don’t want to claim an advance tax credit (subsidy) — but even the private insurance companies will encourage you to provide enough information to determine if you are eligible for a subsidy.

If you enroll via an exchange and opt to take a subsidy, that will be reconciled the following year when you file your tax return.  If it turns out that your tax returns show that your 2014 income is higher than the number you reported, you may have to pay back some or all of the subsidy you receive in the form of a tax payment due in April 2015.  If it turns out that your income is less — or if you enrolled via an exchange but opted not to take an advance tax credit — then you may be entitled to an additional tax credit, that will be paid to you in the form of a tax refund.

So it is important to get things right: but if you are applying for insurance now, you are answering questions about 2013 income when, in the end, it will be your 2014 income that counts.  You will be able to report any changes of income during the year, but that could end up being rather cumbersome if you have some types of income that are fluctuating or subject to change – for example, if part of your earnings depends on earning commissions, or your work hours vary from one week to the next.

This is a complicated topic, but I will start by breaking it down in steps: