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ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
ACA Taxes Impacting Employers & Individuals
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ACA Taxes Impacting Employers & Individuals

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ACA Taxes Impacting Employers and Individuals.

ACA Taxes Impacting Employers and Individuals.

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  • 1. Subject: ACA Taxes Impacting Employers and IndividualsDate: November 27, 2012The 2012 election has come and gone. The Federal government remains predominately statusquo, with Democrats controlling the White House and the Senate, and the Republicans controllingthe House. While there is much to be hashed out relating to continued implementation of theAffordable Care Act (ACA), continued implementation is probably the operative phrase. To thatend, following are brief discussions of important upcoming matters, both for employers andindividuals.Table of ContentsTaxes Impacting Employers 2013 0.9% Medicare Tax Withholding Requirement 2 W-2 Reporting 3 Health Flexible Spending Account Limits 4 Retiree Prescription Drug Coverage Subsidy 4 2014 Shared Responsibility Payment 5Taxes Impacting Individuals 2013 3.8% Medicare Contribution on Net Investment Income 7 0.9% Medicare Tax on Wages and Self-Employment Income 12 Health Flexible Spending Account Limits 13 Increase in Floor for Medical Expense Itemized Deduction 13November 27, 2012 CBIZ Tax Bulletin Page 1
  • 2. CBIZ Special Edition Tax BulletinTaxes Impacting Employers20130.9% Medicare Tax Withholding RequirementEmployers need to be prepared to make payroll adjustments for 2013 for this employee-onlyMedicare tax withholding change. Individuals with wages above $200,000 ($250,000 for marriedcouples filing jointly) will be subject to an additional 0.9% Medicare tax beginning in 2013. Formarried taxpayers filing jointly, the additional Medicare tax will be based on their combined wages,complicating the withholding process for some employers.The employer must begin withholding the additional Medicare tax in the pay period in which theemployees wages exceeds $200,000, regardless of the employees filing status. As a result, theemployee may be subject to the additional Medicare tax withholding even if the couple ultimatelydoesnt owe the tax because their combined wages are less than $250,000. In this situation, theextra Medicare tax withholding would be reflected as a tax payment on the couples individual taxreturn and could be used to offset their income tax liability or be refunded.Situations may also occur where a couple is subject to the additional Medicare tax and has not hadany additional withholding because neither spouse exceeded $200,000 in wages. For example, if amarried couple filing jointly each earned $180,000 in wages, they would owe a combined $990 inadditional Medicare taxes ($360,000 in combined wages less $250,000 multiplied by 0.9%), eventhough neither of them was subject to the additional withholding. In this instance, the additionalMedicare tax would be included in the calculation of their tax liability on their individual income taxreturn. The additional Medicare tax is a tax for purposes of the underpayment of estimated taxpenalty. Therefore, couples in this situation will need to factor the additional Medicare tax into theirestimated tax payments or income tax withholding to avoid penalties.An employee who anticipates being subject to the 0.9% Medicare tax cannot request that theemployer withhold the additional Medicare tax before the employee crosses the $200,000threshold, nor can he request additional withholding specifically for the 0.9% Medicare tax. He can,however, request additional income tax withholding on Form W-4 which will be applied against alltaxes reflected on his individual income tax return (including the additional Medicare tax).Employers are not required to notify employees before withholding the additional Medicare tax.Employers may want to ensure that their highly compensated employees are aware of theadditional Medicare tax, however, in case they need to adjust their withholding on Form W-4. Someof those employees may also be subject to the new 3.8% Medicare tax on investment income andmay desire to adjust their withholding for that tax as well.The 0.9% Medicare tax is in addition to the regular Medicare tax rate of 1.45% of wages but is onlyassessed on the employee. The employer still owes only the 1.45% Medicare tax on theemployees wages. The employer calculates wages for purposes of the additional Medicare tax inNovember 27, 2012 CBIZ Tax Bulletin Page 2
  • 3. CBIZ Special Edition Tax Bulletinthe same manner in which it calculates wages for purposes of the existing Medicare tax. Forexample, non-cash fringe benefits or non-qualified deferred compensation that are subject to thecurrent Medicare tax also would be subject to the 0.9% Medicare tax if total wages exceed thewage thresholds.Before the end of the year, employers should check with their payroll service providers to ensurethat their systems are prepared to withhold the 0.9% Medicare tax when required.W-2 ReportingEmployers who issue 250 or more Form W-2s will be required to report certain information abouttheir employees health benefits on their 2012 W-2s issued in January, 2013. This additionalreporting was optional for the 2011 reporting year W-2s. Employers who issue fewer than 250 W-2s are exempt from this requirement for 2012 and until further notice.The value of the health care coverage is to be reported on Box 12 of the Form W-2 with the codeDD. Generally, the value of both the employers and the employees contributions toward thebenefits is included. Employers are not required to issue W-2s to retirees, former employees, etc.who would not otherwise receive a W-2 except to report the health benefits.Only certain types of benefits are required to be reported on the W-2, and the reporting of somebenefits is optional. A partial list of some of the more common types of benefits is below. For acomplete list, see Form W-2 Reporting of Employer Sponsored Health Care on the IRS website. Do NotCoverage Type Report Report OptionalMajor medical XDental or vision plan not integrated into another medical or healthplan XDental or vision plan which gives the choice of declining or electingand paying an additional premium XHealth Flexible Spending Accounts (FSA) funded by salary-reductionamounts XHealth FSA value for the year in excess of employee’s cafeteria plansalary reductions for all qualified benefits XHealth Savings Account (HSA) contributions (employer or employee) XArcher Medical Savings Account contributions (employer oremployee) XHospital indemnity or specified illness (insured or self-funded), paidthrough salary reduction (pre-tax) or by employer XDomestic partner coverage included in gross income XAccident or disability income XLong-term care XLiability insurance XWorkers compensation XPayment/reimbursement of health insurance premiums for 2% Scorporation shareholder-employee, included in gross income XNovember 27, 2012 CBIZ Tax Bulletin Page 3
  • 4. CBIZ Special Edition Tax BulletinEmployers may calculate the reportable cost of coverage in a number of ways. If the employee iscovered under the employers insured group health plan, the simplest method would be by using thepremiums charged for that employees coverage. Otherwise, the employer can use the method forcalculating the applicable COBRA premium (less the 2% administration fee) or, if the employersubsidizes the COBRA premium or charges the employee based on the prior year COBRApremium, it can use a modified COBRA premium method whereby the employer makes a good faithestimate of the COBRA premium.For complete details and a Q&A on what must be reported on the W-2 and how to calculate it, referto IRS Notice 2012-9.Health Flexible Spending Account LimitsThe amount that can be contributed to a health flexible spending account (FSA) is limited to $2,500,effective for plan years beginning on or after January 1, 2013. The limit does not apply todependent care assistance, adoption care assistance or amounts applied toward the employeeshealth insurance premiums. The $2,500 limit will be indexed for inflation beginning with 2014 planyears.Cafeteria plans and FSA plans will need to be amended to reflect the $2,500 limit. Generally, planamendments to cafeteria plans and FSA plans must be made on a prospective basis (in advance ofthe effective date of the change). The IRS has provided relief from this requirement for FSAchanges; employers have until December 31, 2014 to amend their FSA plans retroactive to the firstplan year beginning on or after January 1, 2013. However, plans must be administered inaccordance with the change beginning on the first day of the first plan year beginning on or afterJanuary 1, 2013.If an employee is eligible for multiple FSAs offered by employers of a controlled group or affiliatedservice group, the employee is limited to one $2,500 limit. If the individual is employed by unrelatedemployers, however, he would be entitled to the $2,500 limit under each FSA (if eligible). Spousesare each eligible to make a $2,500 salary reduction contribution, even if the spouses are employedby the same employer (assuming that the plan allows it).If the plan provides a grace period after the plan year-end (e.g.,. 2 ½ months) where unused salaryreduction contributions can be carried over and applied during the grace period, the carryoveramount does not count against the $2,500 limit for the subsequent plan year. The $2,500 limitapplies only to salary reduction contributions and not to employer non-elective contributions (i.e.,.flex credits). If an employer provides flex credits that employees may elect to receive as cash,however, those flex credits are treated as salary reduction contributions.For additional guidance on how to implement the $2,500 limit on health FSA contributions, refer toIRS Notice 2012-40.November 27, 2012 CBIZ Tax Bulletin Page 4
  • 5. CBIZ Special Edition Tax BulletinRetiree Prescription Drug Coverage SubsidyPrior to January 1, 2013, employers are allowed by the Medicare Modernization Act of 2003 to atax-free subsidy of 28 percent of the costs they incur to provide a prescription drug benefit programto their retirees. Employers are also permitted to deduct any outlays made with these subsidies toprovide retiree drug coverage for income tax purposes. This law was intended to provide relief byreducing the coverage gap, known as the "doughnut hole," for individuals in the Medicare Part Dprogram.Under ACA, employers will still receive the tax-free subsidy after 2012, but they will no longer beable to deduct on their federal tax returns the cost of the prescription drugs to the extent reimbursedby the federal subsidy.Employers should not underestimate the impact of this provision. A Towers Watson studyconcluded that U.S. companies could be facing losses of as much as $14 billion if they don’t shifttheir employees off of drug subsidy plans. In addition, between 1.5 million and 2 million retireeswould have their drug coverage terminated because employers would be forced to shift them intoMedicare Part D coverage. While the government has estimated that the increased corporate taxeswould be close to $4.5 billion, they have failed to also estimate the cost of those retirees comingonto the Medicare rolls and off of employers’ benefit plans.For more information, see IRS Code § 139A, which was amended by PPACA § 9012.2014Shared Responsibility PaymentLarge employers will have some difficult decisions to make between now and 2014 as the prospectof the euphemistically named "shared responsibility payment" looms on the horizon. The sharedresponsibility payment is a nondeductible excise tax assessed on large employers who do notprovide affordable and adequate health coverage to their full-time employees.Beginning in 2014, large employers (generally those with more than 50 full-time employees orequivalents) must provide minimum essential coverage at an affordable rate to all full-timeemployees (defined as those who work at least 30 hours per week) in order to avoid the excise tax.This may require: • Offering coverage to previously excluded full-time employees, • Increasing the percentage of total costs covered, • Increasing the portion of the premiums paid by the employer, and/or • Offering additional benefits."Minimum essential coverage" constitutes 60% of the total benefit costs of a health plan thatprovides "essential health benefits." Essential health benefits include: ambulatory patient services;emergency services; hospitalization; maternity and newborn care; mental health and substance usedisorder services; prescription drugs; rehabilitative services and devices; laboratory services;preventive and wellness services; and pediatric services. Coverage is provided at an "affordableNovember 27, 2012 CBIZ Tax Bulletin Page 5
  • 6. CBIZ Special Edition Tax Bulletinrate" if the employees contribution, including salary reduction amounts, does not exceed 9.5% ofhousehold income, currently based on the cost of single coverage. For purposes of determiningwhether coverage is provided at an affordable rate, employers can rely on an employees Form W-2Box 1 wages.For employers who do not offer coverage to all full-time employees, the excise tax is equal to$2,000 multiplied by the number of full-time employees less 30 (assuming at least one is eligible fora federal subsidy, such as a premium assistance credit or cost-sharing assistance, and participatesin an Exchange). For employers who offer coverage to all full-time employees, but the coverage isnot affordable or does not provide minimum value, the excise tax is equal to $3,000 multiplied bythe number of full-time employees eligible for a federal subsidy and participating in an Exchange.The total excise tax, however, cannot exceed $2,000 multiplied by the number of full-timeemployees less 30.A large employer, for purposes of the excise tax, is an employer who employed an average of atleast 50 full-time employees on business days during the preceding calendar year. For purposes ofdetermining if it is a large employer, an employer must also include, in addition to its full-timeemployees, a number of full-time equivalent employees determined by dividing the aggregatenumber of hours of service of employees who are not full-time employees for the month, by 120.Employers are exempt from the excise tax if its workforce exceeds 50 full-time employees for 120or fewer days during the calendar year and the employees in excess of 50 employed during the120-day period are seasonal workers.Controlled groups of corporations, partnerships and proprietorships under common control, andaffiliated service groups are treated as one employer for purposes of determining whether anemployer exceeds the 50 full-time employee threshold. In addition, for purposes of calculating the$2,000 excise tax, only one 30-employee reduction is allowed for all persons within a multi-employer group. The 30-employee reduction is allocated among these persons ratably based onthe number of full-time employees employed by each person.As previously mentioned, a full-time employee is one who on average works 30 or more hours perweek. While making that determination for traditional full-time employees is simple, classifyingemployees who work variable hours or seasonal employees is considerably more complicated. TheIRS provides a "look-back/stability period" safe harbor which allows employers to make the full-timedetermination by looking back at an employees actual hours worked over a certain period of time(the "look-back period") and then categorizing that employee accordingly for a certain period (the"stability period") regardless of the actual hours the employee works during that period. A variationof this safe harbor that examines hours worked during an initial measurement period may beapplied to new employees.Employers who do not currently cover all full-time employees should estimate what excise tax, ifany, they will owe based on their current health plan structure. Then they will need to perform acost-benefit analysis that compares the cost of expanding coverage as necessary to avoid theexcise tax to the cost of leaving the current plan structure intact and paying the excise tax.November 27, 2012 CBIZ Tax Bulletin Page 6
  • 7. CBIZ Special Edition Tax BulletinEmployers should also explore what other changes it can make to its health plan that wouldmitigate the cost of expanding coverage to more employees. For example, employers may be ableto reduce the overall cost of the health plan by increasing co-pays and co-insurance percentages,increasing the employees share of the premiums or eliminating certain benefits. Any such changesshould be carefully considered, however, as overly-aggressive changes could cause the plan toviolate the "minimum essential coverage", "minimum value" or "affordable rate" standards. Thesetypes of changes may also cause the health plan to lose its grandfathered status which couldsubject the plan to additional requirements.Taxes Impacting Individuals20133.8% Medicare Contribution on Net Investment IncomeHistorically, Medicare tax has only been assessed on earned income. Beginning in 2013,individuals, trusts and estates with income over certain levels will be subject to a 3.8% Medicare tax(referred to as the "Medicare contribution") on net investment income.For individuals, the Medicare contribution tax is equal to 3.8% multiplied by the lesser of: • Net investment income, or • Modified adjusted gross income (AGI) in excess of $200,000 ($250,000 for married couples filing jointly).Modified AGI is equal to AGI plus the foreign earned income exclusion, if applicable.For trusts and estates, the Medicare contribution tax is equal to 3.8% multiplied by the lesser of: • Undistributed net investment income, or • AGI in excess of the amount at which the highest tax bracket begins.For 2013, the highest tax bracket for trusts and estates is projected to begin at around only $12,000of income. Trusts and estates that dont distribute the majority of their net investment income willneed to prepare for significant tax increases in 2013 and beyond. The 3.8% Medicare tax generallywould not apply to simple trusts, since by definition they distribute all income to the beneficiaries, orto grantor trusts, since they are generally disregarded for income tax purposes. Of course, the3.8% Medicare tax could apply to the beneficiaries or grantor, respectively.For purposes of the 3.8% Medicare tax, net investment income generally is the sum of the followingitems in excess of properly allocable deductions: • Gross income from interest, dividends, annuities, royalties and rents; • Other gross income from any passive trade or business or trade or business of trading in financial instruments or commodities, and; • Net gains attributable to the disposition of property.November 27, 2012 CBIZ Tax Bulletin Page 7
  • 8. CBIZ Special Edition Tax BulletinInvestment income does not include: • Investment income that is excludable from taxable income (e.g., municipal bond interest, excluded gain from sale of personal residence); • Qualified retirement plan distributions; and • Income from the active trade or business of a partnership or LLC, S corporation or sole proprietorship in which the individual materially participates.If an individual disposes of his interest in an S corporation or partnership in which he materiallyparticipates, the gain or loss from the disposition of that interest is only taken into account to theextent of the gain that the individual would have recognized had the entity sold all of its assets forfair market value immediately before the disposition.The calculation of the 3.8% Medicare contribution tax is illustrated in the following case study:Case Study – 3.8% Medicare Contribution TaxAssume that Joe, a single taxpayer, has the following sources of income in 2013: Interest income from various corporate bonds and bank $10,000 accounts Tax-exempt interest income from various municipal bonds $8,000 Qualified dividend income from various mutual funds and stock $12,000 investments Net long-term capital gains from the disposition of various $40,000 mutual funds and stock investments Regular IRA distribution $100,000 Net rental income from a building that Joe owns $15,000 Distributive ordinary trade or business income from an LLC in $20,000 which Joe does not materially participate Distributive net Section 1231 gain from the same LLC $10,000 Distributive ordinary trade or business income from an S $60,000 corporation in which Joe materially participates Distributive net Section 1231 gain from the same S corporation $50,000Net investment income for purposes of the 3.8% Medicare contribution tax is calculated as follows: Interest income from various corporate bonds and bank $10,000 accounts Qualified dividend income from mutual funds and stock $12,000 investments Net long-term capital gains from the disposition of investments $40,000 Net rental income $15,000 Ordinary trade or business income from LLC in which Joe does $20,000 not materially participate Net Section 1231 gain from the LLC $10,000 Net investment income $107,000November 27, 2012 CBIZ Tax Bulletin Page 8
  • 9. CBIZ Special Edition Tax BulletinNet investment income does not include the tax-exempt interest income, the IRA distribution or theincome from the S corporation in which materially participates.Joes modified adjusted gross income is calculated as follows: Interest income from various corporate bonds and bank $10,000 accounts Qualified dividend income from mutual funds and stock $12,000 investments Net long-term capital gains from the disposition of investments $40,000 Regular IRA distribution $100,000 Net rental income $15,000 Ordinary trade or business income from the LLC $20,000 Net Section 1231 gain from the same LLC $10,000 Ordinary trade or business income from the S corporation $60,000 Net Section 1231 gain from the same S corporation $50,000 Modified AGI $317,000The 3.8% Medicare contribution tax is calculated as follows: Modified AGI $317,000 Less Threshold $200,000 Modified AGI in Excess of Threshold $117,000 Lesser of Net Investment Income and Modified AGI in Excess of $107,000 Threshold Medicare Tax Rate 3.8% Medicare Contribution Tax $4,066Taxpayers facing the 3.8% Medicare contribution tax should consider a number of the strategiesbelow to mitigate the tax. These strategies may also be helpful if individual income tax ratesincrease in the coming years.Convert to a Roth IRA in 2012While regular IRA distributions are not subject to the 3.8% Medicare tax, they are subject to regularincome taxes and thus are included in a taxpayers modified AGI for purposes of calculating theamount subject to the Medicare tax. Converting to a Roth IRA prior to 2013 will remove all futureIRA distributions from the modified AGI computation which could yield a smaller amount that issubject to the Medicare tax. For example, in the case study above, had the IRA distribution beenfrom a Roth IRA, modified AGI would have only been $217,000, meaning that only $17,000 wouldhave been subject to the 3.8% Medicare tax. The additional Medicare tax would have been only$646 instead of $4,066.November 27, 2012 CBIZ Tax Bulletin Page 9
  • 10. CBIZ Special Edition Tax BulletinThis strategy wont benefit everyone. If modified AGI less the threshold amount will consistentlyexceed net investment income even without the taxable IRA distributions, removing the IRAdistributions from the modified AGI calculation wont produce any benefit.Taxpayers who could benefit from this strategy should consider converting to a Roth IRA in 2012 sothat the Roth IRA conversion amount doesnt increase modified AGI in 2013 or beyond for purposesof the Medicare tax.Realign Investment Portfolio and Time Gain/Loss RealizationThe 3.8% Medicare tax on net investment income gives taxpayers incentive to shift their investmentportfolios to investments that dont produce current taxable income. Such investments may includegrowth-oriented stocks that dont pay regular dividends, tax-exempt municipal bonds, or whole-lifeinsurance contracts with an investment feature. To the extent that current holdings will need to beliquidated to effect this investment shift, taxpayers may want to liquidate those investments in 2012so that resulting capital gains are taxed at 15% and arent subject to the 3.8% Medicare tax.Taxpayers should also consider timing the realization of capital gains and losses to minimize netinvestment income (and modified AGI) in 2013. Taxpayers holding securities in a long-term gainposition may want to realize those gains in 2012 before the Medicare tax goes into effect.Conversely, taxpayers holding securities in a loss position may want to defer realizing those lossesuntil 2013 to ensure that they offset capital gains that would be subject to the Medicare tax.Taxpayers must be confident that they will have capital gains in 2013, however, since only $3,000of capital losses in excess of capital gains can be deducted in one year. Excess capital losses maybe carried forward to offset capital gains in future years.Taxpayers who are selling securities to generate gains and losses but who wish to retain theinvestments must consider the wash sale rules. Securities sold at a loss cannot be reacquiredwithin 30 days before or after the date of the sale, otherwise the loss will be disallowed. Securitiessold at a gain, however, can be reacquired at any time.While the potential taxes from an investment strategy should be analyzed in light of the Medicaretax, it is only one of many factors that an investor should consider when making investmentdecisions. The overall return that an investment yields, the income it produces and the investorsrisk tolerance are just some of the other factors in any investment decision.Shift Investments to ChildrenA taxpayer may be able to lower his familys overall effective tax rate by shifting some investmentsto his children. The 3.8% Medicare tax will be avoided on income from investments given tochildren with modified AGI below the $200,000 or $250,000 threshold. The "kiddie tax" generallywill tax at the parents marginal tax rates the investment income of children under age 19 or full-timestudents under age 24. The kiddie tax rules, however, do not apply to the 3.8% Medicare tax. Ifthe adult children are not subject to the kiddie tax rules, they may also benefit from the incomebeing taxed at a lower marginal tax rate.November 27, 2012 CBIZ Tax Bulletin Page 10
  • 11. CBIZ Special Edition Tax BulletinParents may not want to give their children control over a significant amount of investments.Several vehicles can help alleviate these concerns, such as the use of certain trusts or a familylimited partnership. Taxpayers must consider the gift tax implications of any transfers of assets totheir children. Taxpayers can transfer up to $13,000 of investments ($26,000 if split with a spouse)to each child without any gift tax concerns in 2012. With the $5 million lifetime gift exemptionexpiring at the end of 2012, this is an opportune time to shift investment assets to ones childrenwithout incurring a current gift tax liability.Make Real Estate Professional ElectionRental real estate activities are passive by definition and therefore are subject to the 3.8% Medicaretax. A real estate professional who spends more than 750 hours and more than 50% of hisbusiness activities in a rental real estate activity may treat that activity as non-passive and thereforeexempt from the 3.8% Medicare tax. Real estate professionals generally will not spend therequisite amount of time on one rental real estate activity, but they may make an election to groupseveral activities together for purposes of applying these tests. Investors in real estate who may beable to group activities together to satisfy the 750 hour and 50% tests should consider making thatelection to exempt the income from those activities from the 3.8% Medicare tax. Keep in mind thatsuch an election would eliminate the ability to use any real estate losses to offset other passiveincome in calculating the 3.8% Medicare tax, as well.Look for Passive LossesTaxpayers with significant amounts of passive investment income may want to explore newinvestments that are projected to generate passive losses. Real estate investments would be themost likely suspect. Of course, taxpayers must consider the overall quality of the investment andnot invest in an activity solely to generate tax losses.If taxpayers are looking for investments to generate passive losses, they should avoid publiclytraded partnerships (PTPs). Losses generated by PTPs can only offset income from the sameactivity.Reconsider Installment SalesInstallment sales spread the gain recognition from the sale of qualified property over multiple yearsas the proceeds are received on the seller-financed installment note. While installment saletreatment is usually taxpayer friendly, future tax rate increases can diminish or even eliminate itsbenefits.A taxpayer who sells investment property on an installment basis in 2012 may benefit by electingout of installment sale treatment and recognizing all of the income in the year of sale. Whencontemplating this strategy, the taxpayer must consider whether he can pay all of the tax in thecurrent year without borrowing money, given that he will not have the installment sale proceeds athis disposal. The cost of borrowing money may offset any tax savings from avoiding the Medicaretax.November 27, 2012 CBIZ Tax Bulletin Page 11
  • 12. CBIZ Special Edition Tax BulletinA taxpayer who holds an installment note from 2011 or earlier cannot elect out of installment saletreatment, but can explore ways to trigger the remaining income recognition. For example, sellingthe installment note to a related party for fair market value generally will trigger the remainingincome. If the installment note is held within an S corporation, distributing the note to theshareholders will trigger the income recognition as well.While a taxpayer may want to avoid or terminate an installment sale prior to 2013, once 2013arrives, the taxpayer will benefit from installment sale treatment on any new sales. Not only willinstallment sale treatment match the income recognition with when payments on the note arereceived, but by spreading the income over multiple years, modified AGI for purposes of theMedicare tax calculation will be minimized.0.9% Medicare Tax on Wages and Self-Employment IncomeIndividuals with wages and/or net self-employment income above $200,000 ($250,000 for marriedcouples filing jointly) will be subject to an additional 0.9% Medicare tax beginning in 2013. Forindividuals with self-employment income, the 0.9% Medicare tax is in addition to the regularMedicare tax rate of 2.9% on net self-employment income. The 0.9% Medicare tax does not qualifyfor the one-half of self-employment tax deduction on page one of Form 1040.For wage earners, employers will begin withholding the additional Medicare tax in the pay period inwhich the employees wages exceeds $200,000, regardless of the filing status. As a result, theemployee may be subject to the additional Medicare tax withholding even if the couple ultimatelydoesnt owe the tax because their combined wages are less than $250,000. In this situation, theextra Medicare tax withholding would be reflected as a tax payment on the couples individual taxreturn and could be used to offset their income tax liability or be refunded.Situations may also occur where a couple is subject to the additional Medicare tax and has not hadany additional withholding because neither spouse exceeded $200,000 in wages. For example, if amarried couple filing jointly each earned $180,000 in wages, they would owe a combined $990 inadditional Medicare taxes ($360,000 in combined wages less $250,000 multiplied by 0.9%) eventhough neither of them was subject to the additional withholding. In this instance, the additionalMedicare tax would be included in the calculation of their tax liability on their individual income taxreturn.The additional Medicare tax is a tax for purposes of the underpayment of estimated tax penalty.Therefore, couples in this situation will need to factor the additional Medicare tax into theirestimated tax payments or income tax withholding to avoid penalties. An employee cannot requestthat the employer withhold additional amounts specifically for the 0.9% Medicare tax. He can,however, request additional income tax withholding on Form W-4 which will be applied against alltaxes reflected on his individual income tax return (including the additional Medicare tax). If theemployee may also be subject to the new 3.8% Medicare tax on investment income (discussedabove), he may desire to adjust his withholding for that tax as well.An employee-shareholder of an S corporation currently is not subject to self-employment tax ontrade or business income that passes through to him from the S corporation. The employee-November 27, 2012 CBIZ Tax Bulletin Page 12
  • 13. CBIZ Special Edition Tax Bulletinshareholder could reduce the 0.9% Medicare tax by decreasing his salary and reporting additionaltrade or business flow-through income. The employee-shareholders compensation must bereasonable based on the services he performs and he should evaluate the impact that reducingcompensation could have on maximizing retirement plan contributions.Health Flexible Spending Account LimitsThe amount that can be contributed to a health flexible spending account (FSA) is limited to $2,500,effective for plan years beginning on or after January 1, 2013. The limit does not apply todependent care assistance, adoption care assistance or amounts applied toward the employeeshealth insurance premiums. The $2,500 limit will be indexed for inflation beginning with 2014 planyears.If the plan provides a grace period after the plan year-end (e.g.,. 2 ½ months) where unused salaryreduction contributions can be carried over and applied during the grace period, the carryoveramount does not count against the $2,500 limit for the subsequent plan year.Employees who have traditionally contributed more than $2,500 to their health FSAs may want toreevaluate certain decisions during their health plan enrollment period. For example, employeeswho have historically chosen a higher deductible or declined dental or vision coverage may want toreconsider those decisions since the FSA contributions are limited, especially since employeecontributions toward medical, dental and vision insurance premiums are not subject to the FSAlimitations.Increase in Floor for Medical Expense Itemized DeductionHistorically, qualified medical expenses were deductible as an itemized deduction on Schedule A ofForm 1040 to the extent that the qualified expenses exceeded 7.5% of the taxpayers adjustedgross income (AGI). Beginning in 2013, the 7.5% floor will increase to 10% for most taxpayers.For many taxpayers, the 7.5% floor already was high enough to preclude them from benefiting fromthe medical expense deduction. For example, a taxpayer with AGI of $100,000 would only benefitfrom the medical expense deduction to the extent qualified medical expenses exceed $7,500.Beginning in 2013, that threshold would increase to $10,000. Expenses that are reimbursed byinsurance or paid for with pre-tax dollars are not eligible for the deduction.Taxpayers who are age 65 or older by the end of the tax year are exempt from the increase in theAGI floor until 2017. For married couples, only one spouse needs to be age 65 by the end of thetax year for the couple to be exempt from the increase in the AGI floor, even if the couple filesseparate tax returns. A taxpayer who incurs significant qualified medical expenses and who willturn age 65 between 2013 and 2017 may want to defer paying medical expenses incurred towardthe end of the year until the year in which he turns age 65 in order to benefit from the lower AGIfloor.November 27, 2012 CBIZ Tax Bulletin Page 13
  • 14. CBIZ Special Edition Tax BulletinTaxpayers subject to the alternative minimum tax (AMT) may not feel the effects of the increase inthe AGI floor. The medical expense AGI floor for AMT purposes historically has been 10% and willcontinue as such, even for those taxpayers age 65 and older.The information contained herein is not intended to be legal, accounting, or other professional advice, nor are these comments directed to specific situations. The information contained herein is provided as general guidance and may be affected by changes in law or regulation.The information contained herein is not intended to replace or substitute for accounting or other professional advice. Attorneys or tax advisors must be consulted for assistance in specific situations. This information is provided as-is, with no warranties of any kind. CBIZ shall not be liable for any damages whatsoever in connection with its use and assumes no obligation to inform the reader of any changes in laws or other factors that could affect the information contained herein. As required by U.S. Treasury rules, we inform you that, unless expressly stated otherwise, any U.S. federal tax advice contained herein is not intended or written to be used, and cannot be used, by any person for the purpose of avoiding any penalties that may be imposed by the Internal Revenue Service.November 27, 2012 CBIZ Tax Bulletin Page 14

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