How Is Income Calculated for Health Insurance Subsidy Eligibility?

The exchange and IRS use MAGI but it's not the same as regular MAGI

Modified adjusted gross income is used to determine eligibility for premium subsidies and Medicaid

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If you buy your own health insurance in the U.S. (i.e., you don't get it from an employer or a government-run program like Medicare or Medicaid), you're probably aware of the premium subsidies created by the Affordable Care Act (ACA). While most people are aware that subsidy eligibility is based on income, there's still plenty of confusion in terms of how your income is actually defined under the ACA.

Understanding MAGI

The ACA used the term "modified adjusted gross income" (MAGI) to describe the way income would be calculated for premium subsidy eligibility, and that's accurate terminology—the calculation is a modification of adjusted gross income. But the concept of MAGI already existed for other tax-related purposes, and is calculated differently, which has resulted in some confusion.

The important takeaway here is to understand that MAGI for premium subsidy eligibility (and in many cases, Medicaid eligibility) is not the same as the MAGI definition that you might have already understood in the past. It's specific to health insurance and has its own rules. Even within this category, the calculation is a little different for Medicaid and CHIP versus eligibility for financial assistance with health insurance purchased in the exchange.

The good news is that it's calculated in a way that allows you more flexibility to dial in your MAGI in order to optimize your eligibility for premium subsidies.

Premium Subsidies, Cost-Sharing Reductions, Medicaid, and CHIP

ACA-specific MAGI is used to determine eligibility for premium subsidies (the subsidy is actually a tax credit that's available up front or on your tax return) and cost-sharing reductions when people shop for coverage in their state's health insurance exchange. It's also used to determine eligibility for CHIP and Medicaid.

Medicaid Eligibility and MAGI

Note that not all Medicaid eligibility is based on MAGI; the ACA switched a large portion of Medicaid eligibility determinations to a MAGI-based system—without asset or resource limits. But the eligibility criteria for people who are blind, disabled, older than 64, or dual-eligible for Medicare and Medicaid are different, and can still include asset/resource limits rather than just an income-based system.

How Does the Calculation Work?

If you're familiar with the concept of MAGI that's used in other settings, you know that it requires you to start with your adjusted gross income (from your tax return) and then add back in various things, such as deductions you took for student loan interest and IRA contributions. But when it comes to ACA-specific MAGI, you don't have to add back either of those amounts—or most of the other amounts that you'd have to add to your income to get your regular MAGI.

Instead, the ACA-specific MAGI formula [defined in 26 U.S. Code 36B(d)(2)(B)] starts with adjusted gross income and adds back just three things:

  • Non-taxable Social Security income (prior to 2018, this was Line 20a minus Line 20b on Form 1040; starting with the 2018 tax year, it's Line 5a minus Line 5b on Form 1040).
  • Tax-exempt interest (prior to 2018, this was Line 8b on Form 1040; starting with the 2018 tax year, it's Line 2a)
  • Foreign earned income and housing expenses for Americans living abroad (Form 2555)

For many people, the amounts of these three things are $0, meaning that their ACA-specific MAGI is the same as the AGI listed on their tax return. But if you do have amounts on your tax return for any of those three items, you need to add them to your AGI to determine your MAGI for premium subsidy and cost-sharing reduction eligibility.

For Medicaid and CHIP eligibility determination, some amounts are either subtracted or counted in a specific manner:

  • Qualified lottery winnings and lump-sum income (including inheritances, tax refunds, etc.) is only counted in the month it's received, if it's less than $80,000; larger amounts are prorated over a longer timeframe (Medicaid eligibility is based on monthly income; premium subsidy eligibility, on the other hand, is based on annual income.)
  • Certain payments to American Indians and Alaska Natives are subtracted if they were included in AGI.
  • Scholarships, awards, and fellowship grants are subtracted if they were included in AGI (as long as they were used for education expenses rather than living expenses).
  • Nominal amounts received under government grants by parent mentors who help other families enroll in health coverage are not included in MAGI.

Other MAGI Factors to Keep in Mind

MAGI is based on household income, but there are different rules for how a child's income is counted towards a family's household MAGI depending on whether the eligibility determination is for Medicaid/CHIP or for premium subsidies.

If a married couple wants to apply for premium subsidies in the exchange (or claim them on their tax return after paying full price for a plan purchased through the exchange), they have to file a joint tax return. But if a married couple that lives together applies for Medicaid, their total household income is counted together regardless of how they file their taxes.

Premium subsidies are a tax credit, but they differ from other tax credits in that you can—and most people do—take them up-front instead of having to wait to claim them on your tax return (note that the money is paid on your behalf to your health insurer; it's not sent to you). That also means when you're enrolling in a health plan during open enrollment (November 1 to December 15 in most states, for coverage that will take effect January 1), you'll be using a projected MAGI, based on what you estimate your income to be in the coming year.

If your income is steady from one year to the next, you can reasonably estimate your MAGI for the coming year based on your past year's tax return. Many people who purchase their own health insurance are self-employed and their income varies from one year to another, which can make it challenging to accurately project the coming year's MAGI.

Once the year is underway, if you start to notice that your actual income is diverging significantly from what you projected, you can report your updated income to the exchange and they can adjust your premium subsidy amount in real-time (or switch you from a private plan to Medicaid or vice versa, if your changed income results in a change in Medicaid eligibility status).

To account for the fact that premium tax credits are paid in advance throughout the year, they have to be reconciled on your tax return. If it turns out that the subsidy amount that was paid on your behalf throughout the year was too small, the IRS will pay you the difference when you file your taxes. But if the subsidy amount that was paid on your behalf was too large, you may have to repay some or all of it.

The details regarding premium tax credit reconciliation are explained in the instructions for Form 8962 (Form 8962 has to be included with your tax return if a premium tax credit was paid on your behalf during the year or if you want to claim the tax credit on your tax return).

If your MAGI ends up being over 400 percent of the poverty level (the maximum amount you can earn and still qualify for a premium tax credit) and a premium tax credit was paid on your behalf during the year, you'll have to repay all of it when you file your taxes. As long as your MAGI is less than 400 percent of the poverty level, the amount of the premium tax credit that you'll have to repay is capped at no more than $1,300 if you're a single filer, and no more than $2,600 if you have any other tax filing status (details are in the instructions for Form 8962, in Table 5 on page 16).

Because of the way ACA-specific MAGI is calculated, there are some actions you can take to help ensure that your MAGI ends up under 400 percent of the poverty level, even if it might otherwise be a little too high for you to be subsidy-eligible.

How Saving Money Might Make You Eligible for Subsidies

Premium subsidies in the health insurance exchange are only available if your MAGI doesn't exceed 400 percent of the poverty level. For a single person in 2019, that's $48,560; for a family of four, it's $100,400.

Note that the prior year's poverty level numbers are always used, since open enrollment for a given year's coverage is conducted before the poverty level numbers for that year are determined.

These income levels certainly extend well into the middle class, but if you find yourself with an income that's just slightly too high for premium subsidies, you could end up paying a very significant chunk of your income for your health insurance.

This is where it's helpful to understand that pre-tax contributions you make to retirement accounts will reduce your MAGI, as will contributions to a health savings account (assuming you have an HSA-qualified health plan and are eligible to contribute to an HSA).

Depending on your employment situation and the health insurance plan you have, you may be able to set aside a significant amount of money in a retirement account (this includes traditional IRAs, but also includes things like 401(k)s, SEP-IRAs, SIMPLE-IRAs, solo 401(k)s, which tend to have higher contribution limits) and/or a health savings account and lower your MAGI in the process. If your contributions reduce your MAGI enough to get it under 400 percent of the poverty level, you might find that the resulting premium tax credit (premium subsidy) is significant, depending on where you live and how old you are.

You'll want to consult with a tax professional if you have questions about your specific situation. Just keep in mind that contributions to things like an HSA or traditional IRA (but not a Roth IRA, since those contributions aren't pre-tax) will reduce your ACA-specific MAGI.

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