A few days ago, Stephen Ohlemacher wrote an article for the Associated Press entitled “Obamacare credits could trigger surprise tax bills.” For those who haven’t read it, a quick synopsis: Thanks to the Affordable Care Act, starting this fall, individuals and families will be able to apply for federal subsidies to help them offset the cost of health insurance in 2014. These subsidies are appropriately income-based, meaning that the amount of financial assistance you get decreases as your income increases until, eventually, you are eligible for no subsidy at all (presumably because you can afford the full cost of coverage on your own). However, the federal government only has income data on you and your family from the income taxes you just filed this year, which reflect your 2012 income. If your income goes up in 2014, you may not actually qualify for as much of a subsidy as you were initially deemed eligible to receive, and the IRS will require you to repay the difference, up to a certain point. This has people concerned about surprise tax bills, but I’d like to explain a couple of things here.
First, it’s vitally important to realize that the amounts people would have to repay are capped according to their income. As Ohlemacher writes in his article, for a family of four, the maximum repayment amounts are capped at $600 for those with incomes up to $47,000; $1,500 for those with incomes between $47,000 and $70,000; $2,500 for those with incomes between $70,000 and $94,200; and no cap (the entire subsidy must be repayed) for those with incomes above $94,200.
Second, it is essential to consider what these scenarios mean. If, for example, a family was earning $40,000 a year in 2012 and then their income increased to $75,000 a year in 2014, they would have to repay up to $2,500. While that is being labeled as a “surprise tax bill” here’s why it shouldn’t be anything of a surprise: The individuals were never actually eligible for the subsidy they received, and now they are just being asked to return something that was not theirs to begin with. Moreover, because this only happens when they enjoy a near doubling of their income, the “bill” they will have to pay should be easily absorbed. By contrast, low-income families who remain low-income are not going to find themselves somehow subject to these “surprise bills.”
The flawed thinking here is similar in type to the flawed thinking that people tend to have with regards to the opposite scenario: tax refunds. People get very excited when, a few weeks after they file their income taxes, they get money back from the government. On the surface, it’s understandable. At first, you don’t have this money, and then, suddenly, you do. But the reality is that you were owed this money all along. You earned it in each one of your paychecks, but the government kept it from you for the entire year, without paying you any interest. A refund is really returning to you what you should have had all along. You gave the government an interest-free loan, and you’re just grateful that they returned the principal to you.
The subsidy “tax bill” issue is the same issue in reverse: Your subsidy eligibility is based on your 2014 income, but because of lag time, it will be determined based on your 2012 income. If your income has changed substantially between 2012 and 2014, you will know it. And if you’ve read this article, now you know to determine the amount of subsidy you’re eligible for using that 2014 income. When the time comes, you’ll know if you’ve received a larger subsidy than you’re actually eligible for, and the only one to blame if you’re surprised by a tax bill will be looking back at you in the mirror.