Preparing for retirement requires a projection of expenses that capture the lifestyle of your dreams. Paying for Medicare beginning at age 65 is one of the most anticipated costs for retirees. But every client I have ever prepared for retirement was unaware of a term called IRMAA and the possible unexpected cost. This additional premium may not show up until a dozen years into retirement, but when it does, you could be paying it for the rest of your life. Let’s explore the impact of this little-known secret.
What is IRMAA?
IRMAA is the Social Security Administration’s (SSA) acronym for Income-Related Monthly Adjustment Amount. It is a monthly fee in addition to your regular Part B and Part D premiums if modified adjusted gross income (MAGI) exceeds a certain amount. MAGI is the sum of your adjusted gross income (AGI) on your annual tax return plus any tax-exempt interest, non-taxable Social Security benefits and untaxed foreign income. In other words, some of the income you didn’t pay tax on gets added back for IRMAA determination.
The amount of additional premiums a taxpayer owes, if any, is updated every calendar year for each taxpayer on Medicare. The determination is based on a 2-year lookback of your tax return, so the IRMAA determination for 2023 would look at MAGI for tax filing year 2021. Because incomes can fluctuate in retirement, as the need for cash changes and the requirement to distribute tax-deferred savings increases over time, it is possible to be subject to IRMAA in some years and not in others. It is not a simple expense to plan for many retirees.
Who Pays IRMAA
Certain taxpayers, depending upon projected spending, tax-deferred savings and MAGI, will be subject to IRMAA, but first a quick lesson on Medicare. All taxpayers must enroll in Medicare during a 7-month period around their 65th birthday. Recipients are automatically covered by Part A (hospitalization) and most will have coverage for Part B (doctor visits, diagnostics) and Part D (prescriptions). Part A doesn’t have a premium associated with it for most Medicare recipients, only Parts B and D. All Medicare members pay the Part B monthly premium, which is $164.90, or $1,978.80 annually, in 2023. The Part D premium is determined by the prescription drug plan of the participant. IRMAA premiums are added to the Part B and Part D premiums based on your MAGI from two years ago. The table below shows what your total premium would be for Part B and Part D with IRMAA in each MAGI bracket.
| 2023 Medicare Premiums Adjusted for IRMAA Based on 2021 MAGI | ||||
| Individual | Married Filing Jointly | Married Filing Separately | Part B Premium | Part D Premium |
| $97,000 or less | $194,000 or less | $97,000 or less | $164.90 | Your plan premium |
| Above $97,000 up to $123,000 | Above $194,000 up to $246,000 | Not applicable | $230.80 | $12.20 + your plan premium |
| Above $123,000 up to $153,000 | Above $246,000 up to $306,000 | Not applicable | $329.70 | $31.50 + your plan premium |
| Above $153,000 up to $183,000 | Above $306,000 up to $366,000 | Not applicable | $428.60 | $50.70 + your plan premium |
| Above $183,000 and less than $500,000 | Above $366,000 and less than $750,000 | Above $97,000 and less than $403,000 | $527.50 | $70.00 + your plan premium |
| $500,000 or above | $750,000 or above | $403,000 or | $560.50 | $76.40 + your plan premium |
Source: SSA.gov
Looking at this, one may think that her MAGI will likely not fall into the higher ranges. However, when forecasting projected distributions in retirement, I often see clients become subject to IRMAA after their Required Minimum Distributions (RMDs) begin at age 73, especially for single filers. Single filers are assessed with IRMAA beginning at $97,000 in MAGI, whereas joint filers hit the first tranche at $194,000. The first tranche will increase the Part B premium by $65.90 a month per taxpayer or $790.80 annually. This amount is doubled for married taxpayers as it is assessed per taxpayer and not per couple.
To provide more context, a 73-year old single taxpayer with $1 million in a tax-deferred retirement plan would need to take a mandatory RMD of $37,738 in 2023. Assuming this person also receives $35,000 annually in Social Security benefits, total income is $72,738. This is below the first tranche, but in 10 years (assuming a 5% annual return), this RMD is projected to be $59,961 with total MAGI over $94,000 before social security COLA increases. Keep in mind the IRS has designed RMD calculations to increase each year as we age. In addition, if a taxpayer needs distributions beyond the RMD to pay for increased expenses or gifting, it will count towards MAGI.
Another component to consider is the sale of assets in retirement, such as a home or rental property. A recently retired client of mine plans to sell a vacation home and rental property totaling $2 million in projected profits. Currently, she is in the lowest marginal tax bracket. She will be temporarily catapulted to a premium of $560.50 per month or $6,726 for the year in which she sells the properties. Even though she will have enough money to pay for the additional premiums, she was shocked to learn of this upcoming expense and is now prepared to budget for it.
If you’re lucky enough to have a pension, this will also be included when determining IRMAA premiums. Pension income is taxable at the federal level and included when calculating MAGI, pushing taxpayers closer to premium increases.
Strategies to Reduce or Avoid IRMAA
By far, the biggest culprit of IRMAA is the Required Minimum Distribution (RMD) in later retirement years. Many savers have taken advantage of tax-deferred retirement savings plans like 401(k), 403(b) and IRA retirement plans. Money saved into these accounts is not included as income on your prior tax returns, but Uncle Sam eventually wants his cut. Distributions we take in retirement are reported on our tax returns and become a part of MAGI. Luckily, planning strategies can help dampen or even eliminate IRMAA premium increases down the road.
Ideally, it’s important to diversify your savings not just by asset allocation, but also by asset location. In other words, save money in different tax buckets during your working years. This includes taxable and tax-exempt types of accounts. Taxable accounts are funded with money where taxes have already been paid at your prevailing rate, and future gains are taxed at lower capital gains rates. Tax-exempt accounts are funded with pre-tax dollars and, distributions along with earnings, are tax-free if they comply with IRS guidelines. These are also known as Roth IRAs and Health Savings Accounts (HSAs). Distributions from these two buckets in retirement are NOT included in MAGI and therefore won’t contribute to the IRMAA equation.
For those that have been working for many years and already have much of their savings in a tax-deferred vehicle, Roth conversions could be a way to decrease IRMAA exposure. Roth conversions allow taxpayers to move tax-deferred savings into tax-exempt savings by paying tax at the time of the conversion. Paying the tax and reducing the amount of savings in tax-deferred vehicles will lower future RMDs since the account values will be smaller due to the conversions. And distributions from Roth accounts are not recognized when computing MAGI. Be aware, these transactions are complex and require an analysis of your current tax situation, so always consult with a tax professional such as a CPA or EA before utilizing this strategy.
A third consideration is the number of investments allocated to tax-exempt bonds in retirement. Wealthy taxpayers often utilize tax-exempt bonds to avoid paying tax on income at the federal, state or local levels, but any interest earned on these types of bonds is added back to income when computing MAGI. Strategically managing exposure to tax-exempt bonds could also help reduce the possibility of qualifying for IRMAA.
The Bottom Line
According to the Medicare Board of Trustees, about 6.8 million seniors, or roughly 15.4 percent of all Medicare beneficiaries, will pay approximately $20 billion in IRMAA surcharges in calendar year 2023. The percentage is expected to increase to 16.6 percent by 2024 and 25.8 percent by 2031. This is compounded by the increased participation in defined contribution plans that are tax-deferred by nature, thereby driving up RMDs in the future. Younger workers today are more likely to see future IRMAA assessments over their older peers.
If you are subjected to IRMAA, assessments can be appealed by filing Form SSA-44 with a local Social Security office. Generally, appeals are only considered for life-changing events including marriage, divorce, the death of a spouse, loss of income, and an employer settlement payment. You may be required to file an amended tax return to have an IRMAA assessment overturned.
Single taxpayers are much more vulnerable to IRMAA, as well as divorcees in retirement since they are assessed at the lowest MAGI level, but many more taxpayers overall will be paying IRMAA premiums in the near future. It is possible to decrease exposure by working with a financial planner and tax professional to develop a diversified tax strategy. The sooner taxpayers plan for the possibility of an IRMAA assessment, the more likely the chance of avoiding it.
Visit watchdogplanning.com for more information and to schedule a complimentary consultation.
