In 2003, in order to address a shortfall in Medicare, Congress passed the Medical Modernization Act of 2003. In it, they created a progressive monthly surcharge to Medicare Part B coverage (which covers outpatient services) called the Income Related Monthly Adjustment Amount or IRMAA. The surcharge began affecting those on Medicare in 2007. In 2010, with the passing of the Affordable Care Act, they instituted a progressive surcharge on Medicare Part D premiums (which covers prescription drugs). The premiums are based upon your annual income from two years prior to the current year, which is derived automatically by reviewing your tax return from two years earlier.
As it relates to IRMAA, income is defined as adjusted gross income plus tax exempt interest, also known as modified adjusted gross income (MAGI).
In the year 2023, if your income dating back to 2021 as a single filer was $97,000 or less, or if you’re married filing joint income was $194,000 or less, then your monthly premium is $164.90. This increases to $230.80 after $97,000 or $194,000 filing jointly. It tops out at $560.50 if your income as a single filer is above $500,000 or if your joint income is above $750,000. This is also per person, so a married couple each pays this additional charge.
Medicare Part D surcharges begin for single filers with income over $97,000, and $194,000 for married filing jointly. The first bracket surcharge is $12.20 per month and increases to $76.40 per individual if income is over $500,000 as a single filer, or $750,000 if married filing jointly. A married couple could end up paying $1,273.80 per month in Medicare Part B and Part D premiums if in the highest tier!
The premiums and income brackets are as follows:
Premium Part D Surcharge 2021 Income was:
Single Married Filing Joint
$164.90 $97,000 or less $194,000 or less
$230.80 $12.20 $97,001-$123,000 $194,001-$246,000
$329.70 $31.50 $123,001-$153,000 $246,001-306,000
$428.60 $50.70 $153,001-$183,000 $306,001-$366,000
$527.50 $70.00 $183,001-$500,000 $366,001-$750,000
$560.50 $76.40 Above $500,000 Above $750,000
Married Filing Separately
Premium Part D Surcharge 2021 Income was:
$164.90 $97,000 or less
$527.50 $70.00 $97,001-$403,000
$560.50 $76.40 Above $403,000
As you can see, premiums can get quite expensive for retirees and if not properly planned for, can potentially derail a client’s retirement plans.
Retirees often express their frustration when they realize that despite contributing to a system throughout their lives, diligently saving and making wise financial plans, they are still required to pay additional premiums for Medicare at age 65. This added cost is imposed solely because they have been fortunate or have responsibly saved for their future, even though they receive the same benefits as others. Often the question arises, what can be done to plan for this potential outcome.
The first thing to know is what income is used to determine your Modified Adjusted Gross Income. Examples of income are wages, business income, dividends, interest both taxable and tax exempt, pensions, social security, rental income, and taxable distributions from retirement accounts such as IRA’s or 401k’s. Distributions from Roth IRA’s, Health Savings Accounts and Life Insurance are not includable.
So, planning to reduce your income to avoid the surcharge is a potential way to plan around the assessment. Remember, IRMAA looks at the income from two years prior. Consider the timing of your income if you can.
As an example, if you have a gain that you’re anticipating, perhaps recognize the income earlier in life or being smart about recognizing it in a year where you have losses to offset the income. Other considerations are Roth conversions to reduce future income from retirement accounts, actively using tax loss harvesting to reduce your current income or future capital gain income, gifting assets to reduce income recognition, charitable giving, either itemizing to reduce your current year income or using a Qualified Charitable Distribution to avoid the income from an IRA. Using one or more of these strategies can potentially save a significant amount of money.
In some cases, you may have nominal control over the timing of income. However, in the case of items such as stock options, stock grants, non-qualified deferred compensation plans, and other investments, there is a greater degree of control as to the timing of when you realize income, and how you may be able to spread out that tax liability. Some advanced planning several years prior to age 65 can be impactful.
Remember that the income used to determine your income is from two years ago. This means that in 2023, the premium is based on looking at your final 2021 income, not an average income since 2021. As you can imagine, that can pose many issues as most people retire, then apply for Medicare. They might have had their highest earning years in those years before retirement due to level of career success achieved later in life, additional hours worked, vacation payouts, option exercises, deferred compensation payouts or any other number of compensation arrangements.
As you retire, your income could be fixed and significantly reduced, and you’re possibly faced with higher monthly premiums than you anticipated. In order to apply for relief, you can file with the Social Security Administration using form SSA-44. This is used to notify Social Security of your income change due to a life changing event. The life changing events that qualify are death of a spouse, getting married, divorce, reduction in work, complete stopping of work, loss or reduction in pension or loss of income from property due to things out of your control such as a natural disaster.
In the event your income naturally declines due to a life event such as retirement, your Medicare premium increase will adjust when your taxable income declines. However, because of the two-year look back on income, someone retiring at age 65 may have as much as two years of substantially higher premiums. Once your new income is updated, there is NO REFUND for the higher premiums paid over that two-year period. Instead, only your future premiums will decline. As a result, filing the IRMAA appeal can be highly beneficial.
As with all planning, it’s important to know the rules that you need to navigate. If you’re unsure, consider working with a Certified Financial Planner® who is familiar with the rules and has experience in working with clients in retirement.