Beware the Medicare Surcharge When Crafting Retirement Income Plans

What You Need to Know

  • Advisors building retirement income plans for their clients often fail to consider the potential to trigger potentially sizable monthly Medicare surcharges.
  • Such surcharges tend to have a bigger impact for singles and surviving spouses.

Americans are used to hearing questions and debates about the funding status of Social Security, with the program’s trust funds projected to run out of assets at some point in the early or mid-2030s, but in the experience of Sharon Carson, a J.P. Morgan Asset Management retirement strategist, far less public attention is paid to the equally dire funding status of Medicare.

The situation may have started to change this week, however, with the announcement by President Joe Biden that his forthcoming federal budget will include a higher proposed payroll tax on Americans making over $400,000 per year. Writing in The New York Times, Biden says the tax hike is meant to address the funding issues of Social Security and Medicare, and he says the federal budget will also seek to grant the government new power to negotiate drug prices, with the same goal in mind.

As Carson recently told ThinkAdvisor, the Medicare funding shortfall is one of the reasons why recipients of Medicare insurance coverage can be assessed a monthly surcharge — known as the income-related monthly adjustment amount, or IRMAA — when their income eclipses certain levels.

Depending on an individual’s or couple’s level of income during retirement, the surcharges can be sizable and so they should be considered as part of the holistic effort to build retirement income plans for advisors’ clients.

Carson urges financial advisors to study up on Medicare surcharges. Echoing other retirement planning experts, Carson says there is tremendous opportunity for advisors to deliver value to their clients by helping them strategically coordinate such decisions as when to claim Social Security, how to efficiently draw income from tax-sheltered accounts, and how to make retiree medical coverage decisions that keep costs under control while ensuring the needed care will be accessible and affordable.

“You can be a bit of a hero by helping your clients coordinate all of these things, and having a good understanding of the Medicare surcharge issue is an important part of the effort,” Carson says.

The Basics of Medicare Surcharges

As Carson spells out, Medicare surcharges are organized in a set of five income bands, and the surcharges get progressively higher as a recipient’s income grows. The specific surcharge amount, however, is the same for all income levels with a given band.

When assessing whether to institute a surcharge, the Social Security Administration uses the most recent federal return supplied to it by the Internal Revenue Service.

“This is usually the tax return from two years prior,” Carson notes. “Therefore, if an individual has stopped working or has reduced income due to circumstances outside of their control, they may be eligible for a surcharge appeal and may need to contact their Social Security office.”

Stated simply, the modified adjusted gross income used for the purposes of calculating Medicare surcharges is adjusted gross income plus tax-exempt interest income. Under current law, the thresholds increase each year with inflation, except the top threshold, which was added in 2019. This top threshold is set to inflate annually starting in 2028.

As Carson explains, for those filing singly, the first surcharge income band kicks in at $97,001 and runs to $123,000. Income at this level implies a $78 additional monthly premium surcharge (per person) for Medicare Parts B and D in 2023. For couples, this first income band kicks in at $194,001 and runs all the way up to $246,000, and it implies the same $78 premium increase per person for Parts B and D.

The next income band for singles runs from $123,001 to $153,000, and this implies a monthly premium surcharge of $196. For couples, this second band runs between $246,001 and $306,000.

Leave a Comment