Although the law requires upper-income earners to pay more for Medicare, many people don't think about the link between their income and premiums until the letter from the Social Security Administration arrives detailing the cost increase.
"Getting a notice that your Medicare premiums have gone up takes some people by surprise," says Steven Hanson, a partner with the accounting firm Piehl, Hanson, Beckman, P.A. in Minnesota and past president of the National Society of Accountants. "It's not something they're expecting."
Sometimes Medicare beneficiaries are subject to the high-income surcharge because they reaped a financial gain from the sale of a house, business or other asset. Others find their income goes "over or under the magic number from year to year" based on how well their investments performed during that year, Hanson says. "It's a little difficult to plan for."
Avoiding the surcharge may be impossible, but understanding how your income impacts Medicare premiums can lessen the blow when the time comes, experts say. Here's what you need to know to avoid any surprises.
Who pays more? Individuals earning above $85,000 and married couples earning more than $170,000 are required to pay higher premiums for Medicare Part B and Part D, ranging from 35 to 80 percent of total costs, depending on their income. Medicare Part B covers doctor visits, outpatient services and other care, while Part D pays for prescription drugs.
Less than 5 percent of Medicare beneficiaries pay higher premiums, the SSA reports. The extra premium amounts are withheld from Social Security benefit payments.
The federal government looks at the modified adjusted gross income in the latest returns filed with the Internal Revenue Service (typically two years back) to determine if you must pay an income-related premium. That means income-related Medicare premiums for 2014 were determined by looking at 2012 federal tax returns that were filed in 2013.
Beneficiaries enrolled in Part B generally pay a monthly premium of about $105. In 2014, retirees with incomes above the threshold paid anywhere from $42 to $231 more per person each month for Part B. The premium amounts paid by Part D beneficiaries depends on the plan they chose -- with higher-income individuals paying anywhere from $12 to $69 more a month for prescription coverage in 2014.
The income-related premium increases come in four increments. The 2014 income thresholds that trigger premium increases for individuals are $85,000, $107,000, $160,000 and $214,000. Income thresholds for couples who file their taxes jointly are $170,000, $214,000, $320,000 and $428,000. If you're married but file taxes separately, the income thresholds are $85,000 and $129,000.
Report life-changing events. If your income has decreased because of a life-changing event, you can ask the Social Security Administration to reduce the amount of your income-related premium, explains Casey Schwarz, policy and client services counsel for the Medicare Rights Center, a nonprofit with offices in New York and the District of Columbia.
"Retirement is one of the most common qualifying events," Schwarz says. "People find their circumstances have changed. Their income from two years ago is not reflective of their current income."
The SSA-approved reasons for requesting a reduction include marriage, divorce, death of a spouse; job loss or reduced hours; losing pension benefits; or loss of income-producing property due to a natural disaster. You must submit SSA's "life-changing event" form and documentation, such as a death certificate or retirement letter.
The appeal process. If you disagree with the decision regarding your income-related monthly adjustment amounts, you can request an appeal by completing SSA's "request for reconsideration" form or contacting your local Social Security office.
Planning for the future. One way to avoid paying the high-income surcharge is to keep your income below the cut-off point through tax planning, Hanson says.
For example, a couple who sells farmland they've owned for decades can expect to reap a large capital gain. "Instead of getting all your money from the sale in one year, the payments can be made on an installment basis over a number of years, which keeps your annual income lower," Hanson advises.
Other money-management suggestions include crowding income from the sale of assets into one year, so you pay the income-related Medicare premium that year, but not the next. Making a large charitable contribution can also impact your bottom line and keep your income under the threshold, in some cases.
Looking forward. If you don't fall into the higher-income Medicare bracket, you might sometime soon because the Affordable Care Act froze the income thresholds through 2019, rather than allowing the thresholds to rise with inflation.
"As the cost of living slowly goes up, we're going to see an increase in the number and percentage of people who meet the income threshold," says David Lipschutz, senior policy attorney at the Center for Medicare Advocacy, a nonprofit in the District of Columbia.
Lipschutz also worries about Medicare reform proposals that would lower the threshold for calculating income-related premiums, a move that could "solidly" impact the middle class. Income among Medicare beneficiaries varies, with about half earning below $23,500 a year and 5 percent reporting incomes above $93,900.
"People with Medicare generally pay a greater share of their household income toward health expenses," he says. "Proposals that would save the Medicare program some dollars would bankrupt a lot of individuals and make it harder for them to access care."