Why the IRS Requires Married Clients to Pay More for Medicare

Have your married clients ever wondered why they pay more for Medicare surtaxes than their single counterparts? Do you get the occasional question about "indexing"? Tax law expert Julian Block addresses these questions and more in his second column that takes a close look at Medicare surtaxes.

Sep 2nd 2020
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I devoted several previous columns to 2020’s tax brackets and to the highlights of the Medicare surtaxes.

The surcharges are flat taxes. One is for 0.9 percent on earned income, and the other is for 3.8 percent on certain kinds of investment income.

The surtaxes were introduced in 2013 by the affordable Care Act, popularly known as Obamacare. They help pay for health care reform.

In this column, I’ll mostly focus on the surcharge of 0.9 percent that applies to earned income. Here, Dear Readers, I’m constrained to go off-message for a moment.

Our world is imperfect. An example: Decimal points flummox some of the math-challenged folks who read my columns.

For their benefit, I’m going to refer to the surcharge as a nine-tenths of one percent tax. It applies to high-income individuals when their wages, other kinds of employee compensation, such as tips and taxable fringe benefits, and net earnings from self-employment exceed specified thresholds.

There are three thresholds. They’re based on filing status.

The first is $250,000 for married persons filing jointly. The second is $125,000 for married couples filing separately. The third is $200,000 for individuals in these categories: single; head of household; and qualifying widow/widower (surviving spouse who qualifies for the same breaks as a married couple for two years after a spouse dies).

Marriage penalty. Whether by design or inadvertence, Congress crafted rules that require persons to pay more for Medicare surtaxes solely because they’re married. While it’s okay for two cohabiting singles to each have as much as $200,000 in wages and be below the threshold for the 0.9 percent tax, say our solons, they tell the IRS to take a harsher approach if those two singles decide to marry and submit a joint return.

The IRS’s response is to assess additional taxes. Why? The couple’s combined earnings exceed $250,000; they’re liable for the Medicare surcharge.

An example: Wendell and Wendy are single persons; each earns $200,000 during 2020. As they both have earnings that are below the $200,000 threshold for single persons, both sidestep the surtax.

Suppose Wendell and Wendy wed and file jointly for 2020. While their earnings stay the same, their threshold becomes $250,000. Combined earnings of $400,000 place them $150,000 north of their threshold. All that translates into a tax hike of $1,350 ($150,000 times .09).

Now suppose Wendell and Wendy divorce; they finalize their split at a virtual court appearance on Thursday, December 31, 2020’s final business day.

Divorce trims their taxes. Their filing status as single persons as of the close of the year determines their filing status for the entire year; their 2020 thresholds revert to $200,000. All that translates into no surcharge and no tax hike.

Similarly, Congress says it’s okay for two cohabiting singles to each have modified adjusted gross income (MAGI) of as much as $200,000 without exceeding the threshold for the three and eight-tenths percent tax on investment income. What if they marry?

Cue another penalty. MAGI above $250,000 exposes them to the 3.8 percent tax. Even worse, their reward for a walk down the aisle is that they could become liable for both surtaxes.

Indexing. Congress okayed other long-standing rules that authorize indexing for tax brackets (see “How the TCJA Altered Taxpayer Brackets in 2020”; it ran on Aug. 20th) and standard deduction amounts for individuals who don’t use Form 1040’s Schedule A to itemize write-offs like charitable contributions, and state and local income taxes and property taxes.

Congress decided otherwise when it came to the three thresholds for the surtaxes. Our solons determined that they would be remiss in the performance of their duties were they to authorize annual adjustments for the thresholds. Therefore, persistent inflation, even at its present low levels, will cause the surcharges to apply to more high-income individuals in upcoming years.

In a future column, I’ll delve into the 3.8 percent surcharge that applies to high-income investors.

Additional articles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 350 and counting). 

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