Many changes recently occurred because of the American Rescue Plan, which could provide significant benefits for certain groups of people, including those retiring before age 65 who do not have retiree health insurance provided by their previous employer. If you find yourself in this situation, there are several strategies you can potentially implement to amplify the benefits of the new changes, but time is of the essence because this gift only lasts two years.
Many people who need health insurance before age 65 will utilize either COBRA or Affordable Care Act (ACA) health insurance to help bridge the gap until Medicare starts. The American Rescue Plan just made ACA health insurance more affordable for many people by capping the cost of the premiums for this insurance at 8.5% of Modified Adjusted Gross Income (MAGI) based on the amount of tax credits you would receive to offset the cost of an ACA silver plan in your area. This change toward how ACA tax credits are determined only applies to the years 2021 and 2022. After 2022, the cost of ACA insurance is scheduled to revert to how it was determined previously.
To understand the planning strategies that make sense for your unique circumstances, it is important to understand what is and is not included in MAGI. Some common types of income include but are not limited to wages, net business income, Social Security, pension income, and distributions from tax-deferred retirement accounts, such as traditional individual retirement accounts (IRAs) and 401(k) plans. A few common types of income not included in MAGI are qualified distributions from Roth IRAs, distributions of basis from nonqualified accounts, and distributions from common bank accounts, such as checking, savings, or money market.
Because of the American Rescue Plan, one item people may want to consider is the timing of when they should take their Social Security income. Many experts already tout the benefits of delaying Social Security income beyond age 62 because of the permanent increases you receive for waiting. The decision to delay Social Security just became even more appealing for individuals on ACA health insurance. This has become more appealing because every dollar of Social Security income received will increase how much of your hard-earned money you pay for premiums. This will occur because Social Security is included in MAGI.
For example, if someone begins their Social Security at 62 for $20,000 per year, this will increase their MAGI by $20,000. A $20,000 increase to MAGI will cost this person an extra $1,700 in lost tax credits ($20,000 x 8.5%), and they also will have a permanent reduction in their Social Security benefits because they took them early. This same analysis should also be considered for those who may receive additional benefits for delaying their pension.
In addition to potentially delaying Social Security and pension income, it would be wise for people to consider where they get the income needed to support their lifestyle for 2021 and 2022. In essence, any distributions from tax-deferred retirement plans like IRAs and 401(k) plans will also increase how much of your hard-earned income you pay for premiums because these distributions also count toward MAGI. Every $10,000 distribution from a tax-deferred account will increase MAGI by $10,000, which will effectively increase the cost of ACA premiums by $850. Astute retirees would be wise to consider the current extra costs associated with distributions in 2021 and 2022 versus what these same distributions may cost them after this plan expires at the end of 2022.
In addition to the potential savings associated with ACA strategies mentioned above, there may be another strategy for individuals to consider. If you are presently on COBRA or are planning on taking COBRA insurance following the separation from an employer, you should consider looking at ACA insurance as an option. ACA insurance just became more affordable for many people, especially those who are able to strategically plan their retirement income sources, as mentioned above. If you decide to explore ACA insurance as an option, there are a few ways to learn more about it. You can explore ACA insurance online at healthcare.gov, or you can communicate directly with an insurance agent who has experience working with ACA insurance. If you use an experienced agent, they can help you with the application process and assist if you encounter issues. There is no additional cost for buying an ACA plan through an agent.
In summary, the American Rescue Plan is a game-changer for those in need of health insurance coverage before age 65, when Medicare can start. It also presents some excellent planning opportunities for those willing to act fast. Consider looking at all forms of present and future income. Make sure you account for all investment accounts that will be used toward your retirement income to help develop a plan considering both the current and future costs of your different income streams and distributions. This two-year gift won’t last forever, so make sure you develop your plan now.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. Securities offered through LPL Financial, Member FINRA/SIPC. Investment Advice offered through Great Valley Advisory Group, a registered investment advisor and separate entity from LPL Financial.