Healthcare Reform Planning Tips

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If your goal is to get people hopping mad, just mention health care reform.  Americans have a wide range of opinions, often loudly held on the legislation.  But our question isn’t whether this law is a good idea, it’s given what has been passed:  what do we do about it?

While quite a bit is still up in the air, we now know the basic provisions:  in 2014, the bill will expand health coverage to 32 million U.S. residents who currently don't have it, mainly by allowing low-income uninsured persons to use Medicaid and paying part of their premiums.  Some of those costs will be covered by a $2,000 per employee tax on businesses with 50 or more employees who do not offer health coverage, and by adding taxes to the most expensive medical insurance plans--those which cost more than $10,200 for single coverage, or $27,500 a year for family coverage for most plans.

We don't recommend that you read this bill unless you have a serious case of insomnia.  Much of it is about detailed government policies and it’s written in incomprehensible legalese, not to mention it’s over 2,000 pages long.

The good news is that financial planners have been trying to digest all these provisions so we can give reasonable advice to our clients.  A recent article in Financial Planning, one of our leading trade magazines, offers a first hint at how planning for health care reform might look in the next few years.  Here are the basics:

The new law includes several tax increases.  Starting in 2013, the Medicare payroll tax will go up from 1.45% to 2.35% of income for single taxpayers earning more than $200,000 a year (and couples earning more than $250,000).  At the same time, people in these income levels will be hit by a new 3.8% Medicare tax on all dividends, capital gains and income from rental property.  These new taxes will be applied in a way that most of us are not familiar with; if you earn one dollar over the threshold, the higher Medicare tax counts against your ENTIRE income, not just the income you earned over the threshold amount.  And the extra Medicare tax on dividends, capital gains and rent is only applied to people with income above these threshold amounts; if your adjusted gross income is one dollar lower than the threshold, the tax doesn't apply to you--at all.

Next year, high-earning taxpayers will see dividend taxes rise from 15% to ordinary income rates (maximum: 39.6%), and capital gains taxes will rise from 15% to 20%--and, yes, this is in addition to the Medicare surtaxes.

How can you plan for this?  Anybody who has accumulated earnings in a C corporation might be advised to take as much of the money out in dividends this year as possible, paying a 15% tax and avoiding the higher taxes in 2011 and later.  People who own an S corporation might consider taking more of their income in salary and less in dividends, paying less Medicare tax in the process. But this can be tricky, since any salary increase might be subject to additional FICA taxes of 12.4%.

Another way to avoid some of the tax bite is to move money out of investments which generate high dividends or interest (corporate bonds and utilities) to muni bonds, which provide tax-exempt or tax-deferred income.  Some might also defer more income through employer sponsored retirement plans or annuities.

Meanwhile, high deductible health insurance policies will face restriction; $2,000 will be the highest deductible for small group health plans for individuals; $4,000 for families.  But existing policies will be grandfathered so long as they eliminate exclusions for pre-existing conditions, and eliminate yearly and lifetime limits on coverage.  The best way to plan for this provision is to buy a high-deductible policy now before they disappear.  People with a health savings account should consider contributing the maximum this year, and employers might switch to a high-deductible group policy now in order to contain future costs.

Speaking of which, some companies that are just above the 50-employee threshold might decide to downsize, outsource the workforce or split up their companies into parts in order to fall below the minimums.

Finally, beginning in 2016, every American must either buy health insurance or pay a $695 fine or a fine of 2.5% of income, whichever is greater.  The IRS will enforce payment, so people without health insurance should start planning their budget and seeing if they qualify for the government subsidies.

Is it possible that the health care law will be repealed before then?   Most experts doubt if there will be a complete repeal, but there might be significant changes that eliminate or soften the insurance mandates on individuals and businesses.  We are at the start of a long period of politics and gamesmanship over health care.  It would be unwise to assume that anything is certain.

So why plan?  Because having a well thought out game plan makes you more prepared for any changes that come down the pike and less likely to react to random events.