Medicare taxes and surtaxes are used to pay for different aspects of Medicare. A standard Medicare tax is collected from all workers in the U.S. In most cases, these taxes are taken before employees receive their paychecks. The standard Medicare tax and Social Security tax are combined into a single deduction with the Federal Insurance Contributions Act (FICA). For high-income individuals, additional Medicare tax may be sought. This Medicare surtax can significantly increase the amount of taxes you owe for a given tax year.
Medicare is a type of federal health insurance program that’s comprised of parts A, B, and D. The majority of people who obtain Medicare Part A don’t pay for it because of the contributions that taxpayers give to the Social Security Administration. These contributions amount to 1.45% by employers and 1.45% by employees.
Any self-employed person is tasked with paying the entire 2.9%. If you make below $200,000, the tax you pay will always be 1.45%. However, there are two basic surtaxes that can be applied if your income exceeds $200,000. These taxes include the additional Medicare tax and the net investment income tax (NIIT).
Additional Medicare Tax
If you’re a single filer who makes above $200,000 or a married couple filing jointly with an income of over $250,000, you’ll need to pay the additional Medicare tax. This surtax is set to a rate of 0.9%. Keep in mind, however, that the tax is only applied to the income you make above the threshold limit. Let’s say that you earned $300,000 last year. When it comes time to pay taxes, the surtax will be used on the $100,000 you earned above the $200,000 threshold. The remaining $200,000 is taxed solely with the 1.45% tax.
Net Investment Income Tax (NIIT)
Another surtax that you might need to pay is the net investment income tax, which is considered to be a Medicare tax. In the event that your investment income and modified adjustment gross income is above a specific amount, you may need to pay a tax that amounts to 3.8% of your investment income. The types of income that are counted as part of net investment income include:
- Rental income
- Short-term and long-term capital gains
- Business income from financial trades
- Passive income from your investments
- Taxable interest
When determining if you owe this surtax, you should use the same thresholds as mentioned previously. If you’re a single filer, the NIIT tax could be applied if you made more than $200,000 last year. This threshold increases to $250,000 if you’re married and filing jointly.
However, the tax is only assessed on your investment income for the year. Let’s say that you’ve made $30,000 in investment income and earned $260,000 for the year. While you’re $60,000 above the threshold, the NIIT tax is assessed on the $30,000 in investment income.
What Is Earned Income?
When you’re calculating your Medicare surtax, your earned income includes:
- All wages
- Self-employment income
- Non-fringe benefits
Once you’ve made $200,000 for the year, your employer will start to withhold the additional Medicare tax from your paychecks.
How Is the Medicare Surtax Used?
The Medicare tax is meant to pay for Medicare Part A. This portion of Medicare provides health insurance coverage for individuals who are at least 65 years old or have disabilities. It’s used to pay for expenses related to skilled nursing care, inpatient hospital stays, and hospice.
Around 34% of all Medicare funding comes from Medicare taxes. The remainder comes from premiums, interest, transfers, and other taxes. While your Medicare taxes help fund Part A, your additional Medicare tax offsets some of the costs related to the Affordable Care Act (ACA).
If you’re right on the threshold of needing to pay a Medicare surtax, you should consider obtaining professional assistance when filing your taxes. Doing so will help you avoid making a mistake on your annual tax return. WKB Accounting LLC is here for your accounting needs! Call us at 954-833-7796 or email Lee@Wkbaccounting.com.