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) when you purchase an insurance plan on the health exchange, under the Affordable Care Act (“Obamacare”). The key is to know what the income levels are, what counts as income, and then to have other sources of savings or income to cover you 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.
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, when you file your 2020 tax return in April 2021, then 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), which unfortunately 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
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 monthSingle 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/monthMarried 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
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. Consider that 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 stocks or funds with large capital gains, consider selling 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, you can 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 contribution (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.
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 premium tax credit and will instead 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).
If you can delay your retirement income and have other assets available to cover your expenses until after 65, you may be able to take advantage of 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, and 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 and create an estimate of what you might pay out-of-pocket as well as what your maximum out-of-pocket costs would be.