using the ACA to retire early

Using the ACA to Retire Early

A lot of people want to retire early. Maybe you’re one of them. The biggest obstacle for many is the skyrocketing cost of health insurance. It’s such a huge expense that some assume they have no choice but to keep working until age 65 when they become eligible for Medicare.

However, if you can carefully plan out your retirement income, you may be eligible for a Premium Tax Credit (PTC). What’s the PTC? It’s a tax credit for buying an insurance plan on the health exchange, under the Affordable Care Act (“Obamacare”). The key is to know what the income levels are and what counts as income. Then, use other savings or income until after the year in which you reach age 65 and enroll in Medicare. If we can bridge those years, maybe you can retire early by having the PTC cover a significant portion of your insurance premiums.

ACA Income Levels

You are eligible for a PTC if your income is between 100% and 400% of the Federal Poverty levels. For a single person, those income amounts are between $12,140 and $48,560 for 2019. For a married couple, your income would need to be between $16,460 and $65,840. The lower your income, the larger your tax credit. Please note that if you are married filing separately, you are not eligible for the PTC. You must file a joint return.

The PTC will be based on your estimate of your 2020 income. If your actual income ends up being higher, you have to repay the difference. So it is very important that you understand how “income” is calculated for the PTC.

Under the ACA, income is your “Modified Adjusted Gross Income” (MAGI). Unfortunately, MAGI is not a line on your tax return. MAGI takes your Adjusted Gross Income and adds back items such as 100% of your Social Security benefits (which might have been 50% or 85% taxable), Capital Gains, and even tax-free municipal bond interest.

Read more: What to Include as Income

Premium Tax Credit

Here are some examples of the Premium Tax Credit, based on Dallas County, Texas, for non-tobacco users:

  • Single Male, age 63 with $45,000 income would be eligible for a PTC of $580 a month
  • Single Male, age 63 with $25,000 income, PTC increases to $811 a month.
  • Married couple (MF) age 63, with $60,000 income would have a PTC of $1,404/month
  • Married couple (MF) age 63, with $40,000 income would have a PTC of $1,633/month

(Same sex couples are eligible for a PTC under the same rules. They must be legally married and file a joint tax return.)

For this last example of a 63 year old couple making $40,000, the average cost of a plan after the Premium Tax Credit would be $332 (Bronze), $428 (Silver), or $495 (Gold) a month, for Dallas County. That’s very reasonable compared to a regular individual plan off the exchange, or COBRA. 

Check your own rates and PTC estimate on Healthcare.gov

Understand ACA Income

Here’s how you can minimize your income to maximize your ACA tax credit and retire before 65:

  • Don’t start Social Security or a Pension until at least the year after you turn 65. If you start taking $2,000 a month in income, it means you could lose a $1,400 monthly tax credit.
  • Don’t take withdrawals from your Traditional IRA or 401(k). Those distributions count as ordinary income.
  • You can however take distributions from your Roth IRA and that won’t count as income for the PTC. Just make sure you are age 59 1/2 and have had a Roth open for at least five years. 
  • Build up your savings so you can pay your living expenses for these bridge years until age 65. 
  • If you have investments with large capital gains, sell a year before you sign up for the ACA health plan. Although you might pay 15% long-term capital gains tax, you can avoid having those sales count as MAGI in the year you want a PTC.
  • In your taxable account, sell funds or bonds with low taxable gains in the years you need the PTC. That can be a source of liquidity. Rebalance in your IRA to avoid creating additional gains.  
  • You can pay or reimburse yourself from a Health Savings Account (HSA) for your qualified medical expenses. Those are tax-free distributions.
  • If you still have earned income when “retired”, a Traditional IRA (if deductible) or a 401(k) contribution will reduce MAGI. 
  • If you sell your home (your primary residence), and have lived there at least two of the past five years, then the capital gain (of up to $250,000 single or $500,000 married) is not counted towards MAGI for the ACA.  

Minimum Income for the ACA

An important point: your goal is not to reduce your income to zero. If you do not have income of at least 100% of the poverty level, you are ineligible for the PTC. Instead, you will be covered by Medicaid. That’s not necessarily bad, but to get a large tax credit and use a plan from the exchange, you need to have income of at least $12,140 (single) or $16,460 (married).

Retire Early with the ACA

If you can delay your retirement income until after 65, you may be eligible for the Premium Tax Credit. This planning could add years to your retirement and avoid having to wait any longer. If you want to retire before 65, let’s look at your expenses and accounts. We can create a budget and plan to make it happen using the Premium Tax Credit.

Consider, too, that the plans on the exchange may have different deductibles and co-pays than your current employer coverage. Check if your existing doctors and medications will be covered in-network. Create an estimate of what you might pay out-of-pocket as well as what your maximum out-of-pocket costs would be. 

Good Life Wealth is here to be your guide and partner to make early retirement happen. We are a fiduciary planning firm, offering independent advice to help you achieve the Good Life. Email Scott@goodlifewealth.com to learn more.

Reducing the Costs of Healthcare

We may soon see the repeal or defunding of the Affordable Care Act (ACA or “Obamacare”). No matter your political perspective, there is no doubt that rising costs of health care are a significant financial problem for many American families. These costs threaten our ability to save and accumulate, as well as to secure our retirement. In our financial plans, we calculate a higher rate of inflation for health care costs than other living expenses, but cost increases for those using individual plans on the ACA exchange have grown much faster than the overall 5-6% rate nationwide.

As a society, we are going to need to curb these costs while making sure all Americans have access to care. What concerns me today is that the new administration is pushing forward with the repeal while replacement plans remain vague and uncertain. We know what they are against, but what is the best solution?

Here’s a Financial Planner’s perspective on how America might reduce the cost of healthcare. My hope is that we can have a more educated and thoughtful conversation about this complex subject.

1) Covering Pre-existing Conditions
Requiring insurance companies to accept new participants and cover their “pre-existing conditions” is a fair and compassionate move from a consumer protection standpoint. But it’s a major change to the insurance model.

It means that insurers have to worry about self-selection bias, where people who are sick will sign up, but people who are healthy decide to forgo coverage. The more insurance premiums go up, the more self-selection occurs. That’s why the ACA included a provision to penalize people who do not have coverage, to create a financial incentive for everyone to participate.

The penalty is 2.5% of your income, with a floor of $695 and a ceiling of $2,085 per adult for 2016 and 2017. The ACA forces a painful decision between paying a penalty versus spending thousands more on coverage that has a high deductible and may offer little benefit unless you have a catastrophic illness or injury.

Unfortunately, requiring insurance companies to accept pre-existing conditions is like requiring auto insurers to cover your car after you’ve already had an accident. To afford covering pre-existing conditions, we need all Americans to participate in health insurance and not let healthy folks opt out. That’s why covering pre-existing conditions combined with rising costs is causing self-selection: people who are healthy are choosing to forgo coverage or cannot afford it.

Similarly, allowing young adults to stay on their parent’s coverage through age 26 under the ACA sounded like a great idea to keep those children insured. Unfortunately, it removed healthy young people from the pool, which made costs more expensive for everyone else who needed coverage through the exchange.

In this regards, the ACA coverage of pre-existing conditions has increased costs more than anticipated. Maybe the best solution would be a single-payer, government health plan, like in many European countries. Our tendency is to reject these plans out of hand, but maybe we should look more carefully at their costs, benefits, and features. We cannot afford to think we have nothing to learn from the rest of developed world.

2) Cost of insurance versus healthcare
Insurance companies have a mandate legally requiring a large, fixed percentage of their premiums go directly to medical costs and not to overhead. Insurance premiums have not been rising because of greedy insurance companies making profits. In fact, the opposite, companies are leaving the ACA exchange after losing tens or hundreds of millions of dollars. Insurance costs are going up because the costs of healthcare are skyrocketing.

What we need to be doing is looking at ways to reduce healthcare costs; insurance just passes through those costs to consumers. The US spends 50% to 100% more than other developed countries per person. We spent 17.8% of GDP on healthcare in 2015, the highest in the world. Universal healthcare programs in Europe, Canada, and elsewhere costs much less, no more than 10-11% of GDP.

Why do we spend so much on healthcare in the US?

  • US patients may pay 3-4 times as much for medicines than in Mexico or Canada. This is frequently for drugs that were invented or manufactured in the US. We need to examine why the free market isn’t pushing those costs down.
  • The threat of lawsuits, and magnitude of awards, hurts Americans two ways. Directly, the cost of malpractice insurance is ultimately passed on to consumers. Indirectly, doctors may order additional tests, procedures, or medications that may be unnecessary or more costly than other alternatives, because of the threat of malpractice, rather than medical need.
  • To some extent, private insurance subsidizes hospitals who receive low reimbursements from Medicare and from uninsured patients who do not pay. Your insurance company is likely paying a hospital much more than they would receive from Medicare. Many public hospitals, like Parkland in Dallas, serve the 15% of Americans who are uninsured. And when the uninsured have a $50,000 hospital bill, that amount will seldom be collected.
  • Patients often do not have any incentive to reduce costs or share in expenses. Once your deductible and out-of-pocket is met, for example, the patient’s cost of a $15,000 procedure is the same as a $50,000 procedure. Which procedure is a doctor or hospital more likely to recommend if you have good insurance?
  • We spend a significant amount of our Medicare and Medicaid budget on caring for people in their last 3-6 months. Dying is a natural process, but modern medicine often assumes we should prolong life for as long as possible regardless of the quality of that life. I am glad that we do not tie end-of-life decisions to cost, but perhaps it would be both sensible and compassionate to focus on comfort rather heroic procedures for an elderly patient with significant health issues. Being hooked up to machines and tubes may keep you alive, but it is not the same as living.
  • Many health issues such as heart disease, blood pressure, and diabetes are exacerbated by the obesity problem in the US. An education on smarter food choices and more exercise should start at an early age. Prevention is less expensive.

We cannot expect the cost of health insurance to decrease unless we address the cost of healthcare. We need to encourage everyone to have health insurance coverage, because the very nature of insurance is spreading out risks so that the pooled money covers claims for those who need it. We are keeping our fingers crossed that whatever plan Washington develops, more people can be insured and that we look long-term to keep healthcare costs better under control.