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MY WIFE AND I PAID just $234 in federal income taxes on 2021 adjusted gross income of $98,370, giving us an effective tax rate of less than 1%.
How did we end up paying so little? It all started with my October 2020 layoff. I was age 57 and had, until then, enjoyed a 34-year newspaper career. One of my immediate concerns: getting health insurance coverage.
That turned out to be easy in 2021. Thanks to Affordable Care Act (a.k.a. Obamacare) sweeteners approved by Congress in response to the pandemic, my wife and I received a tax credit toward health insurance that ultimately totaled just over $1,600 a month. That covered 88% of our premium costs.
Because of the legislation, I and others who received even a week of unemployment benefits during 2021 got a special tax break: Our modified adjusted gross income (AGI) for purposes of Obamacare was considered to be 133% of the federal poverty level, rather than our actual modified AGI. That meant that, because I received unemployment benefits for three months last year, we could realize income without it reducing our Obamacare credit.
My wife and I took advantage by selling $80,000 in mutual fund shares in our taxable account. Our $58,856 in fund profits qualified for the 0% capital gains rate. That largely explains our tiny 2021 tax bill, despite a fairly hefty amount of income.
In 2022, our modified AGI matters again for me, but not my wife. She switched to Medicare last summer upon turning age 65. From here, we’re faced with a key decision: Do we sell investments to take advantage of our low income-tax bracket, or do we rely on our cash reserves, thus limiting our taxable income and thereby maximizing my Obamacare premium tax credit?
This year, I’m opting for the latter course. In re-enrolling in Obamacare, I estimated our 2022 income at $34,200. Most of that income is “unavoidable.” It includes my wife’s newspaper pension, her required minimum distributions from an inherited IRA, and our dividends and interest. My monthly premium is currently set at $114.40 after a tax credit of $744. The actual size of the tax credit will be determined next spring, when we file our 2022 federal tax return, which will include Premium Tax Credit Form 8962.
What if our income turns out to be higher than we expect? Each $10,000 increase in modified AGI between $30,000 and $70,000 reduces my credit by more than 10%. Result: While our marginal federal income-tax rate is likely to be only 10%, any additional income would effectively incur a rate that’s more than double that.
That gives me pause when weighing the common advice for someone in our position, which is either to sell winning investments in our taxable account to take advantage of the 0% capital gains rate—as we did in 2021—or to withdraw funds from traditional retirement accounts, perhaps converting them to a Roth.
Next year, the Obamacare sweeteners end. That means that, if our modified AGI exceeds 400% of the federal poverty level, I’ll be ineligible for a premium tax credit. For most two-person households, that threshold will be a modified AGI of $73,240.
My plan for this year and next year is to rely largely on cash to cover expenses, assuming I don’t land a job with health insurance. In my final working years, I had stockpiled cash in anticipation of a possible layoff. We also boosted the size of that cache with last year’s $80,000 mutual fund sale.
As for 2024 and beyond, I could stick with an Obamacare plan and accept that replenishing our cash coffer requires realizing extra income that would reduce my credit. Alternatively, I could switch to a low-cost, short-term individual plan for perhaps a single calendar year, allowing us to make significant portfolio sales without worrying that it’ll increase my premium. I could then switch back the following year, aiming to hold down our taxable income so I’d again get the benefit of the Obamacare premium tax credit.
Joe Kiefer volunteers regularly at his church in Ohio and at an adjoining food pantry, and he enjoys helping friends with personal-finance issues. After a career spent in newsrooms as a copy editor and reporter, he volunteers as an editor for a nonprofit organization and has been helping edit articles for HumbleDollar.
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My mutual fund sent me $355,000..it was interest they collected on my account…don’t ask me why or how….then the next year I sold $3.9 million out of another account…I met IRMAA….they eliminated my social security and took it away, I get $49 a month now. I paid $1.2 million state and federal on this……over a 2 year period…99% of the population is ignorant to what this sadistic IRMAA ripoff is, as I was. My low income retiree neighbors know nothing about this, they are low income, which is below $89,000, says the WALL STREET JOURNAL.
Joe, this is awesome, thank you! How did you navigate all these options? That’s my biggest concern.
Tax code is approximately 70,000 pages. Some estimate it would take 8 weeks to read it, non-stop. So, as you can imagine, the tax code is complicated and the result of lobbyists and of course, a paid-off Congress for the most part. Happy tax day, 4-18-2022, Y’all! LOL
PS – There is nothing “fair” about our tax system… it is what it is and my goal is to avoid IRMAA at all cost. If you want to read about a “Fair Tax Plan” then go here: https://en.wikipedia.org/wiki/FairTax
Joe followed the tax law. That’s all that matters. Congress and then President G W Bush changed the law so the first 80,000 of long term capital gains are taxed at 0% for married couples. That law has not been changed.
Obamacare has been a big help to me twice. The first time when my position was eliminated at age 58 and I couldn’t find full-time work for 18 months, and I was the custodial parent for my son in college, which required him to have insurance. I got a policy for both of us. The second time was last year after I retired early. It reduced my payments from $800 under my old employer’s Cobra plan to $400 until I was eligible for Medicare.
Don’t forget about IRMAA charges on Medicare for you and your wife as the years pass.
It’s also perfectly appropriate for those who are financial responsible(!!) to use their HELOC instead of IRA withdrawals to help keep their income down…
What a system we have. You have done nothing wrong, of course, but you illustrate how gaming the tax system – legally – is not limited to the billionaires.
While you use Obamacare and the Secure Act to minimize your premiums at $114.40 a retiree with Medicare earning a fraction of what you earn pays $170.10 PLUS Part D and supplemental coverage costs.
It’s no wonder people are confused about the fairness of both our health care and tax systems.
You took the words out of my mouth, and said it better than I could. The more government programs, the weirder it gets. A zero capital gains rate makes no sense.