Q. Under the ACA, my insurance premium subsidy is dependent on adjusted gross income (AGI). But, for a self-employed person, AGI is dependent on the insurance premium, since premiums are deductible for the self-employed.
For example, my husband and I have an AGI of $72,000 before accounting for health insurance. That’s too high for a subsidy for a household of two, so our tax-deductible insurance premiums (line 29 on the 1040) would be $8,952, which is the full cost of our health plan. Subtracting $8,952 from $72,000, our new AGI is at $63,048. Now, since our AGI is less than $64,960 (for 2018 coverage, that’s the upper limit for subsidy eligibility for two people; note that the limit was $64,080 for two people with coverage in 2017), we qualify for the subsidy.
So our new annual premium would be $6,027 (9.56 percent of our MAGI, which applies in 2018; note that the limit was 9.69 percent in 2017 for households with income beween 300 and 400 percent of the poverty level). But if $6,027 is what we should put in line 29, our AGI would be $65,973 (that’s $72,000 minus $6,027). And since that’s higher than $64,960, we would no longer be eligible for the subsidy! Help!!
A. This can be a complex situation, and our answer is intended to serve as an overview of how the subsidy calculation works; always seek help from a qualified tax professional if you have questions about your specific situation.
[Note that in the example above, we’ve included subsidy thresholds and income percentages for both 2017 and 2018. If you’re filing your 2017 taxes, the numbers from 2017 will pertain. But if you’re planning ahead for the current tax year and the tax returns you’ll file in early 2019, you’ll use 2018 numbers. In both cases, the applicable percentage of poverty level will be from the year before the year in question (eg. 2017 poverty level numbers are used to determine subsidy amounts for 2018 coverage).]
“… the amount of the [self-employed health insurance premium] deduction is based on the amount of the … premium tax credit, and the amount of the credit is based on the amount of the deduction – a circular relationship. Consequently, a taxpayer eligible for both a … deduction for premiums paid for qualified health plans and a … premium tax credit may have difficulty determining the amounts of those items.”
In the regulation, the IRS provides two methods that self-employed taxpayers can use to calculate their deduction and their subsidy. The iterative calculation will result in a more exact answer, but it is a little more time-consuming to compute. The alternative calculation is less exact (and appears to favor the IRS just slightly), but less time-consuming and easier to calculate. You have your choice of which one you want to use, and tax software should have the calculations built in, which would make them both simple to use.
In a nutshell, both methods have you do the calculations repeatedly, getting ever-closer to the correct answer (that’s what iteration means). But while the iterative calculation has you keep going until the difference between successive answers is less than $1, the alternative calculation lets you stop sooner.
The easiest way to understand how the two calculations work is to start on page 9 of the regulation and work through the examples the IRS has provided. When they mention the “limitation on additional tax,” they’re just referencing the caps on how much you have to pay back when you file your taxes if it turns out that your advance subsidy (the amount sent to your health insurance company each month) was overpaid because your income ended up being higher than projected. So in example 1 on page 9, the IRS uses $2,500 as the limitation on additional tax, because the family’s household income is between 300 and 400 percent of poverty.
[Note that the caps on repayment of excess subsidies are listed in Table 5 on the IRS instructions for Form 8962 (the form that’s used to claim or reconcile the ACA’s premium tax credit), and they depend on your income. The more you earn, the more you potentially have to pay back if your premium subsidy was overpaid during the year, and if you end up with income over 400 percent of the poverty level and are thus not eligible for the subsidy at all, you have to pay it all back.]
In addressing the question of the circular relationship between AGI and premium subsidies for self-employed people, the examples the IRS provides cover scenarios where the filers took advance premium tax credits as well as scenarios where they did not, since you can pay your own premiums in full each month and then claim your total credit for the year when you file your taxes. The examples make the calculations relatively straightforward, although the standard advice applies: If in doubt at all, contact a tax professional for assistance.