As mentioned in my previous posts, 2013 also brings new taxes for high-income earners under the Affordable Care Act. Effective January 1, 2013, one of the significant taxes under the Affordable Care Act is the increase in Medicare taxes on W-2 or self-employment earnings for high-income earners (those earning more than $200,000 for unmarried taxpayers, $250,000 for married filing joint, and $125,000 for married filing separate taxpayers). Medicare taxes increase from 1.45% to 2.35% for W-2 wages above these thresholds. The employer does not have to match the increased tax on the taxpayer’s earnings. Self-employed taxpayers will now pay 3.8% on any earnings over these thresholds ((2.35% + 1.45% = 3.8%) rather than the previous 2.9% (1.45% x 2)).
Here is an example of how the new Medicare Surtax impacts high-income earners.
Sally is unmarried with W-2 earnings. She earns $250,000 during 2013, which is $50,000 over the threshold. Her employer will withhold 1.45% on the first $200,000, match the 1.45% and then withhold 2.35% (or an extra .9%) on all amounts over $200,000. However, her employer continues to pay the employer’s portion at 1.45%.
Earnings from multiple sources could result in taxpayers ending up owing money next April 15th as a result of underpaid taxes. One solution to avoid underpayment of taxes would be for the taxpayer to ask the employer to withhold additional withholding taxes by completing Form W-4. For married couples, each person may want to ask their employer to withhold additional taxes if their combined income exceeds the threshold.
There are a few ways to reduce the Medicare Surtax such as:
- Reducing wages (typically, not a very realistic alternative),
- Making a contribution to a qualified retirement plan, or
- Contributing to a flexible spending account (up to $2,500), assuming this will be used.
Shifting the income to investment dividend income may not be a viable solution because the other significant tax that is part of the Affordable Care Act is the investment earnings surtax. The investment earnings surtax is 3.8% on investment earnings above $250,000 for married filing joint taxpayers. I will be discussing the investment earnings surtax in greater detail in an upcoming post.
Stephen C. Hartnett, J.D., LL.M.
Associate Director of Education
American Academy of Estate Planning Attorneys, Inc.
9444 Balboa Avenue, Suite 300
San Diego, California 92123
Phone: (800) 846-1555