Friday, October 25, 2013

Q&A Series – Individual Health Insurance Mandate and Potential Penalties

This week’s question comes from Mary, a client who is wondering what will happen if she chooses not to obtain health care coverage for 2014.

Q. I have been reading about and listening to news coverage regarding the Affordable Care Act and the new health insurance provisions. I am very healthy and, knock on wood, have not had health insurance for the past two years. However, I’ve heard that if I don’t get health care coverage by March 31, 2014, then I’ll be subject to a penalty. Is that accurate? And is there any way around this penalty?

Great questions, Mary. In fact, you are one of many of our clients that have expressed concerns and/or apprehension about not completely understanding the Affordable Care Act (ACA) and the upcoming provisions that begin January 1st of next year. Let me start by saying that it is true that starting in 2014, you and your family must have adequate health care coverage or you will be facing a penalty, known as the “shared responsibility payment” when you file your 2014 federal income tax return in 2015. As always, however, there are exceptions to every rule. We’ll touch base on those exceptions a little later in our discussion.

First, let’s dive a bit deeper into the ACA’s individual shared responsibility provision. The “shared” part of the provisions refers to the fact that our government system, both federal and state, as well as insurers, employers and individuals are given a shared responsibility to take part in this health care reform designed to improve the availability, quality, and affordability of health insurance coverage in the United States. And whether you agree or disagree with the health care reform, this provision calls for each individual to have minimum essential health coverage for each month of that particular calendar year, qualify for an exemption (to be discussed shortly) or pay a penalty with your tax return.

The provision applies to individuals of all ages, including children. If you have dependent children that you claim, you are responsible for their coverage or the resultant penalty. As described above, the provision requires minimum essential health coverage for each individual. While the specific details of the coverage requirements are beyond the scope of this particular blog, you should be aware that if you already participate in an employer-sponsored plan, are covered by Medicare or Medicaid, or have some other form of health coverage, your coverage most likely will count as minimum essential coverage and you will not need to do anything other than continue your current coverage to comply with the new requirements. If you are considering purchasing health care coverage through the Health Insurance Marketplace, the exchange can help you find minimum essential coverage that fits your budget and your needs.

Also, keep in mind that there is transition relief if you are enrolled in a non-calendar year plan. There is also a relief period, known as a short coverage gap, which allows you to have a one-time gap in coverage as long as it lasts less than three months. So, if you are considering swapping plans, you have some leeway in the timing. It is also noteworthy that you will be treated as having minimum essential coverage for a month as long as you have coverage for at least one day during that month. These coverage provisions will be very important in determining the amount of months that you are covered versus not covered when calculating the penalty.

So, now that we have some background on the subject, let’s return to Mary’s original question. What happens if you take the risk of not insuring yourself or your family? As we’ve mentioned, you will be subject to a penalty when filing your income tax returns. But is it worth it to pay the penalty versus the cost of health insurance? You may decide that it is. While we certainly cannot advise you on whether or not to make that decision since foregoing insurance can be very risky, especially if you were to become ill, we can certainly help to educate you on the penalty you might face.

The penalty, or shared responsibility payment, is a somewhat complicated calculation. In the most basic form, the monthly penalty is the lesser of the national average bronze-level health insurance premium for the taxpayer’s family or an applicable dollar amount. The applicable dollar amount is the greater of a flat dollar amount ($95 in 2014, $325 in 2015, and $695 in 2016 per person, capped at 3 times the amount) or a percentage (1% in 2014, 2% in 2015, 2.5% in 2016) of the taxpayer’s household income over their respective filing threshold. And you thought they might make this easy??? In order for us to estimate your penalty, you’d need to know your household income (the modified adjusted gross income of all relevant members of your family) and the number of months that you were uncovered insurance-wise. The other pieces of information can be obtained from government literature.

Let’s look at a very basic example. Suppose Mary is a single individual who decides to waive coverage for the entire 2014 year, meaning she is uncovered for 12 months. Let’s further assume that she has a household income of $120,000, a filing threshold of $12,000 and the national average bronze-level plan premium for an individual is $5,000. Here we go. Since Mary is a single individual, for 2014, her applicable dollar amount is $95 (previous paragraph.) We compare this with the applicable percentage (previous paragraph) of excess household income over her filing threshold ($120,000-12,000 = 108,000 x 1%) or $1,080. We need to use the greater of those two amounts, $1,080. Since our example illustrates that she was uncovered for a full 12 months, we compare this total applicable dollar amount of $1,080, to the full premium for the bronze-level policy given to be $5,000. The lesser of these two amounts will constitute the penalty. So, Mary would owe a penalty of $1,080 when filing her 2014 income tax return.

Assuming everything else remained the same in our previous example, suppose Mary was uncovered for 6 months instead of the full year; our calculation changes at the last step. Instead of comparing an applicable dollar amount of $1,080 to a bronze-level premium of $5,000, which were amounts for a full non-covered year, we pro-rate those amounts for the 6 months that she was uncovered. So, in this case, the penalty would be the lesser of $540 ($1,080/12 x 6) or $2,500 ($5,000/12 x 6). Mary’s penalty for being uncovered for 6 months would be $540.

While these are extremely simple examples, and there are many factors that can change the course of this calculation, you can see that in 2014, your penalty may not be as high as you might have anticipated. Therefore, you should give careful consideration as to whether the penalty is worth the risk of remaining uninsured. Also, if you have a family, the penalty calculation is even more involved since there are multiple members that may be each differently insured or uninsured. And, as evidenced above by the inflated flat dollar amounts and percentages of excess income, the more time that elapses between when the provisions take place, the higher the penalty will grow. By the time 2016 rolls around, the flat dollar amount will have risen to $695 and we will need to use a 2.5% percent figure in our excess income calculation. Assuming Mary’s entire situation remained the same for the all three years, her uncovered penalty would rise from $1,080 (calculated above for 2014) to $2,160 in 2015 and $2,700 in 2016.

Okay, so now that you may be thoroughly confused, although slightly relieved that the penalties are not as considerable as you might have expected, it’s time to highlight some of the ways that you can avoid both having health insurance and having to pay a penalty. There will be exemptions granted for members of religious sects that are recognized as conscientiously opposed to accepting insurance benefits, members of recognized health sharing ministries and members of federally recognized Indian tribes. Exemptions can also be obtained on account of short coverage gap (discussed earlier), hardships that render you unable to obtain coverage, unaffordable coverage options (the minimum premiums are greater than 8 percent of your household income), incarceration, and no U.S. presence. In addition, if your income is below the filing threshold and you are not required to file an income tax return, you are exempt from the essential minimum coverage requirement. For those seeking an exemption, the Health Insurance Marketplace will be able to provide certificates of exemption for many of the exemption categories, although some of these exemptions can be claimed only upon filing a federal income tax return.

One final thought to consider when weighing your options. Please keep in mind, that you can obtain health care coverage at any point in time. In other words, if you assume the risk that you will not need health insurance and subsequently fall ill, you will not be precluded from purchasing health insurance when that occurs. There are no pre-existing exclusions with these new policies. You will, however, incur the penalty up until the point in which you obtain coverage.

In summary, while the ACA shared responsibility provisions take effect January 1, 2014, many of you will not need to alter your current health care coverage at all to meet the standards. Some of you will choose new health care coverage, while some of you may decide to remain uncovered and face any applicable penalties. If you fall into one of the exempt groups, you should contact the exchange to obtain a certificate of exemption. And if you are still undecided and want to explore your options further, we are happy, as always, to provide a complimentary review of your individual financial situation. Thanks again for your well-timed questions, Mary.

We encourage our clients and readers to send us questions for our Q&A series at And as always, we hope you will keep Rollins & Associates and Rollins Financial in mind when seeking professional advice on tax matters as well as financial planning and investing.

Best regards,
Danielle Van Lear, CPA/PFS

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