Using IRAs to reduce Medicare premiums

Directing a portion of required minimum distributions directly to a charity can reduce both taxes and Medicare premiums

By Mary Beth Franklin

Feb 24, 2017 @ 10:00 am EST

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High-income Medicare beneficiaries who are age 70 1/2 or older can use a recent change in the tax code to reduce their Medicare premiums surcharges.

Individuals whose modified adjusted gross income (MAGI), which encompasses all income including tax-exempt interest, tops $85,000 and married couples whose joint income exceeds $170,000, pay higher premiums for both Medicare Part B, which covers doctor visits and out-patient services, and Medicare Part D, which covers prescription drug costs. There are five income tiers and if your MAGI exceeds an income bracket by just $1, you are catapulted into the next tier and will pay a higher surcharge. Medicare premiums are based on the latest available tax return, so 2017 premiums are based on 2015 tax returns that were filed last year.

In 2017, most new enrollees in Medicare Part B pay a standard premium of $134 per month. So do existing Medicare beneficiaries who do not receive Social Security benefits. But most retirees who enrolled in Medicare before 2017 and who have their premiums deducted directly from their Social Security benefits pay less because of a hold harmless provision that protects them from a net decline in benefits when Social Security annual cost-of-living adjustments are smaller than a scheduled increase in Medicare premiums.

High-income retirees pay more. In 2017, monthly premiums that include high-income surcharges for Medicare Part B range from $187.50 to $428.60. Rates are per person, so a retired couple would pay twice that amount. That means married couples whose income topped $428,000 in 2015 would pay more than $10,000 for Medicare Part B premiums alone in 2017.

For the segment of Medicare beneficiaries who are 70 1/2 years of age or older and who are subject to both required minimum distributions from their traditional retirement accounts and Medicare premium surcharges, a new income tax rule that became permanent in 2016 can help reduce the pain. Beginning in 2016, a provision that had previously been extended on a temporary year-to-year basis now permanently allows older taxpayers to directly contribute up to $100,000 from an IRA to a qualifying charity without recognizing the assets as income. Spouses can each make their own separate contributions. Qualified charitable distributions (QCD) count toward satisfying the donor's annual minimum distribution requirements.

"Qualifying IRA owners may recognize significantly greater tax benefits from utilizing this provision to fund charitable donations that they would from making contributions from other accounts or property," according to the EY Tax Guide 2017. "By excluding IRA distributions that satisfy the requirements for QCDs, the taxpayer reduces AGI which in turn reduces the percentage limitation based on AGI that apply to various deduction."

One avid reader, a CPA who asked not to be named, also pointed out that this can also be a great way to minimize Medicare premium surcharges.

Let's say that a person was going to be $700 into Medicare Tier II, which in 2017 means they would pay an extra $54.50 per month for a total Medicare Part B premiums of $187.50 per month. By donating $1,000 directly from an IRA to a charity, that person would remain in Tier I and not be subject to the Medicare Income Related Monthly Adjustment Amount (IRMAA), he explained. If a person needed more tax shelter than their current annual level of contribution, then he or she could accelerate future gifts into the current year to avoid entering a new Medicare income tier, he pointed out.

The challenge is Medicare premium surcharges are based on the last available tax returns. The 2016 tax returns filed this year will determine 2018 Medicare premiums. Any actions taken this year that affect your income will determine Medicare premiums in 2019.

"In this complicated financial world of 2017, a person needs to look at all of the tax and non-tax laws in the aggregate versus any one law in a vacuum and see how they interact and utilize them to the best advantage," he added.

The Social Security publication "Medicare Premiums: Rules for Higher-Income Beneficiaries" explains who is affected by the premiums surcharges and under which circumstances you may be able to appeal the higher monthly charge including if you married, divorced or became widowed since the last available tax return or if you or your spouse retired or reduced the number of hours that either of you work.

(Questions about new Social Security rules? Find the answers in my new ebook.)

Mary Beth Franklin is a certified financial planner.

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