I’ll say up front that the approach we’ll describe here doesn’t work for everyone but it’s worth sharing…especially if you are in a situation where you are just over the point of receiving a subsidy! If you’ve stumbled upon this blog you are likely in a situation similar to ours: self-employed and ineligible for ACA subsidies. There are two choices when you find yourself in this situation:
a) Freak out and Google “self-employed health insurance alternatives” and end up on a blog like this, or
b) If you are a personal finance nut like me, try to figure out how you might make adjustments to your tax deductions to actually start qualifying for a subsidy
Trust me, we spent a lot of time thinking about (b) before moving on to (a). In fact, prior to becoming self-employed we performed a lot of analysis based on different income situations. As part of this research, we submitted a question to Justin at the Root of Good Financial Independence Blog. It resulted in a much more detailed post on the subject than I’ll describe here. Don’t Fall Off the Affordable Care Act Subsidy Cliffs is a fantastic analysis of how you might control your Modified Adjusted Gross Income (MAGI) on your taxes to qualify for a subsidy (MAGI is the official income line item the subsidies are based on). I was the “Don” (name changed to protect the innocent) who submitted the question and it was because I was thinking of the strategy we’ll highlight here. If you find the summary I’ve posted here interesting please be sure to check out the more detailed post at Root of Good.
Some Basic Background
Your eligibility to achieve a subsidy under the Affordable Care Act (ACA) is based on your income…but what income? If you’ve ever looked at a 1040 tax form it can be complicated. There’s the gross income you received as a self-employed individual, then the income after your business deductions, then income after the standard deduction and other non-business deductions. For example, on the Health Insurance websites it will ask you, “What is your Income?” If you are entering your gross income you are entering too much. Your subsidy is based on your Modified Adjusted Gross Income (MAGI), which for most people is just your Adjusted Gross Income (AGI) – line 7 on the updated 2018 1040. Here’s the link from Healthcare.gov to learn more about AGI.
The other part of the subsidy formula is the number of individuals in your household. Simply put, the more individuals in your household the higher your income can be to qualify for a subsidy.
So What if My AGI is a Little Too High for a Subsidy?
The first thing you may be wondering after reading the above is, “Great, but how do I know what my AGI needs to be to qualify for a subsidy?” This comprehensive article at Healthinsurance.org includes an updated table showing the levels of subsidy by income and size of household (it’s the same type of table referenced in the Root of Good blog post I mentioned above but it is updated for the current year).
If you find yourself teetering on the “ACA cliff” and need to reduce your AGI without actually reducing what you earn that’s where the Health Savings Account (HSA) and Self-Employed 401K can help! Both of these accounts allow you to contribute pre-tax dollars to pay for medical expenses (in the case of the HSA) or retirement (Self-Employed 401K). So let’s illustrate this in a simplified example:
Let’s say you and your wife are both self-employed and earn $85,000 (after business expenses). According to the chart I referenced at Healthinsurance.org, subsidies officially phase out at an AGI of $65,840 for a household of two. Your initial reaction is to start Googling alternatives. But wait, let’s say you are a saver, open to getting creative and do the following: (a) contribute to an HSA and (b) contribute to a Self-Employed 401K enough to qualify for a subsidy. For clear demonstration purposes let’s assume you max out each of these contributions. Here’s what this looks like:
- $85,000 Initial Adjusted Gross Income
- Less: $6,900 Health Savings Account Contribution (this is the maximum 2018 contribution)
- Less: $55,000 Self-Employed 401K Contribution (this is the maximum 2018 contribution per person)
- $23,000 New Adjusted Gross Income for Calculating Subsidy
In this example we’ve gone to the extreme – we are now clearly in subsidy territory according to our chart. Of course, it might not be realistic for many people to make this type of contribution (on this level of income) but even if you just reduced AGI by $20,00 in this example your ACA plan would at least include some subsidy.
But This Just Isn’t Practical!
We’ll fully admit this might not be achievable for many people. However, if you spend less money than what you make (a practice we’d recommend!) you are a prime candidate. If you earn $85,000 and spend $85,000 then putting aside any money to reduce AGI is probably unrealistic. However, even if you earn close to what you spend, but have savings, you might be able to make this work. For example, if you reduce your AGI by $20,000 using these techniques you have $20,000 tied up in a retirement account or HSA (not bad places but not accessible for your daily expenses). If you had $20,000 in savings you could re-purpose those savings for your routine spending while the $20,000 you used to reduce AGI starts growing in an HSA or 401K account.
Of course, another reason this might not be practical is if you simply earn too much income. A nice problem to have and it’s possible even maxing out these deductions to AGI wouldn’t get you into the subsidy threshold.
Our purpose in posting this is to make sure you are considering all options during annual enrollment. There are some fantastic calculators out there to estimate your subsidy under different levels of AGI. We understand it may not be practical for everyone but it’s an interesting approach for the savers out there! The links in the article should be great resources to get you started in your research!
The linked resources in this article are far more detailed than what we’ve provided here. Nonetheless, hopefully it helps a few people think more creatively (financial and tax planning pays off!). If you have any questions on this strategy, the accounts described, etc. please let us know!