The Obamacare Tax That Nobody Expects

Feb 27 2014, 12:59pm CST | by

Yesterday the Internal Revenue Service posted guidance outlining its plans to enforce Obamacare’s “individual mandate” – a tax on those who don’t sign up by the end of March for health insurance that meets the law’s requirements. It was the scheme all along, that health officials would raise noise around the tax penalty heading into the closing days of Obamacare’s open enrollment. The idea is to use the specter of this tax as a way to coerce a few more stragglers and holdouts into the insurance market.

But the individual mandate is a weak penalty, amounting  $95 per adult and $47.50 per child (up to $285 for a family) or 1% of your taxable income — whichever is greater. The penalty increases over time, reaching $695 per person per year by 2016, or 2.5% of your Income. With a penalty that small, it still might be a lot cheaper for some families to bypass the Obamacare plans that comply with the law, and buy skinnier plans that don’t meet Washington’s mandates (and pay the penalty on the side).

For these reasons, for most consumers, the biggest hit most they’ll face on their tax returns – especially next year — won’t be the penalty for spurning Obamacare (the so-called individual mandate), but rather, the tax hit they’ll take for complying with the law’s dictates.

That’s because the Obamacare subsidies are structure as refundable tax credits, apportioned according to your income. As your income rises, your subsidy falls. But their calculated off your trailing tax return. So if you end up earning more money in 2014, and deserve a lower subsidy than your 2013 tax return entitled you to, the difference will be “clawed back” when you file your tax return in 2015.

The same principle applies in reverse. Consumers who get subsidies that were too small relative to their actual income will get tax refunds (or refundable credits).

There’s a section on the Obamacare application process that requires you to report “Family Income Changes” so the IRS can figure out how much you are owed, or owe back to the government.

So how many families will find themselves caught up owing more than they were initially promised? About 38% of households that qualify for subsidies, according to researchers, might have to pay something back to the IRS. Some of them could owe big sums of money even on small gains in income.

At biggest risk are people whose annual household income put them near the thresholds where the Obamacare subsidies make steep declines. These cliffs are steepest for those people who earn 150% of the federal poverty level (a family of 4 earning $35,000 in annual household income); 250% (a family of 4 earning about $55,000 annually); and 400% (a family of 4 earning about $95,000 annually).

When consumers grow their income above these thresholds, they could see sharp drops in the amount of subsidy they receive. So if they are right near one of these cliffs, and earn a little extra income this year than last, they could find themselves owing back thousands of dollars on their 2015 tax return. The thresholds at 150% and 250% are most acute because that’s where the special “cost sharing” subsidies kick in, that help offset the expense of out of pocket costs and deductibles. But the unforeseen tax hit owing to the “clawback” is going to be painful even for those who don’t benefit from these additional monies, and just get subsidies to offset some of the cost of paying for the Obamacare premiums.

Take this example: A family of 4 whose annual household income is $90,000 will get a $3,700 premium subsidy to buy Obamacare. If the household income rises to $96,000 they get nothing. If they ha already received (and spent) that subsidy on health insurance, then in 2015 they’ll owe the money back to the IRS.

So even as the IRS starts to lift the veil on the individual mandate tax, the biggest bite from Obamacare lies ahead. It is another furtive tax buried in the law — but one that won’t hit those who sit out this market, but people who choose to enroll.

Source: Forbes Business


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