Obamacare is going to tax my 401(k)! (not really)

Recently I have been hearing a lot about how 401(k)s are going to be taxed under Obamacare. Now that the election is over the Patient Protection and Affordable Care Act (PPACA) that became law back in March 2010 is here to stay.

It has created quite a bit of confusion and misunderstanding on the new taxes that will come into effect.

Outside of the mandated penalty for not getting health insurance, which the Supreme Court clarified in the case last summer as a tax, there is an increased Medicare tax placed on high income earners.

According to Michael Maye, the founder and president of MJM Financial Advisors in a recent article in The Street, “the first new tax is an incremental 0.9% Medicare tax on wages above $250,000 (married filing joint) and $200,000 (single).”

The tax applies to wages and is before deductions for items like 401(k) contributions and healthcare premiums The tax also applies to self employment income earned by sole proprietors and partnerships as well.

The second part of the tax applies to unearned income (not wages) and encompasses several different forms of income with some specific exclusions.

It works like this – pay the lower of 3.8% of:

1) excess Modified Adjusted Gross Income above $250k if married (or $200,000 if single) or

2) unearned income.

For example, a married couple with a Modified Adjusted Gross Income of $270,000 and unearned income of $10,000 would owe $380. The calculation works as follows:

The lower of:

  • Excess Modified Adjusted Gross Income is $20,000 x 3.8% = $760
  • Unearned income is $10,000 x 3.8% = $380

Unearned income includes: taxable interest, dividends, net capital gains, annuities, rents (non-trade/business), and royalties. Luckily, tax planning does exist for this second tax.

Exemptions include:

  • Municipal Bonds
  • Roth conversions
  • Income from distributions from tax-favored retirement plans and accounts such as 401(k) plans, pension plans, traditional IRAs, and Roth IRAs

Of course if you read between the lines, your  investment real estate net rents will be taxed – if you are a high income earner but – rents received by real estate held inside your retirement plan is not subject to this tax!

Of course each person’s tax situation is different, so careful planning is in order for most anyone moving forward. But stop worrying about your 401(k) getting taxed by Obamacare.

It is just not true.

About Roger Simard

Roger P. Simard, CFP® Roger P. Simard is the founding principal of Genesis Financial Advisors, LLC, and Genesis Tax Advisors, LLC. He heads the firm's corporate and personal financial planning practice and oversees all operations. Mr. Simard concentrates his work in the fields of financial planning, real estate investing, tax planning, and portfolio management. Mr. Simard is a Certified Financial Planner™ and has over 23 years of experience helping individuals and businesses achieve financial success. Mr. Simard was a speaker for The Prudential Spirit of Community Awards, a nationwide youth recognition program honoring secondary school students for outstanding service. He is a frequent speaker and radio guest on business and taxation issues and successful investment strategies and provides Continuing Education classes for Realtors.
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