Retirement income can be affected in a significant way if MAGI isn’t understood and considered. MAGI is the abbreviation for marginal adjusted gross income. There is a threshold limit of income that can be made annually before crossing the line and getting penalized by Medicare. The limits are for those ages of 65 and older, those currently enrolled in Medicare. The income limits for 2020 are $87,000 for individual tax filers and $174,000 for couples filing jointly.
I refer to MAGI as a gold digger. MAGI doesn’t just take money from the wealthy and isn’t a respecter of gender. Cross MAGI and you will pay dearly! If the income threshold is crossed, the maximum penalty will be a loss of $347.00 per month or $4,164.00 per year of income received. That amount could be double for a couple filing jointly. The penalty can last up to 2 years.
Medicare premiums are based on your modified adjusted gross income, or MAGI. That’s your total adjusted gross income plus tax-exempt interest, as gleaned from the most recent tax data Social Security has from the IRS. To set your Medicare cost for 2020, Social Security likely relied on the tax return you filed in 2019 that details your 2018 earnings.
If your MAGI for 2018 was less than or equal to the “higher-income” threshold —$87,000 for an individual taxpayer or $174,000 for a married couple filing jointly — you pay the “standard” Medicare Part B rate for 2020, which is $144.60 a month. At higher incomes, premiums rise, to a maximum of $491.60 a month if your MAGI exceeds $500,000 for an individual or $750,000 for a couple.
MAGI can be defined as your household’s adjusted gross income with any tax-exempt interest income and certain deductions added back. The Internal Revenue Service (IRS) uses MAGI to establish if you qualify for certain tax benefits.
Let me expand on this a little further. There are multiple situations that MAGI can be unintentionally crossed and loss of income will be incurred.
- Lump sum withdrawals from IRAs and retirement accounts to fund activities such as travel and vacations, early lump sum mortgage payoff, paying cash for automobile purchases, higher education funding and weddings are reasonable causes to make withdrawals from the retirement nest egg. These additional withdrawals will be added income to the calculation for MAGI and may cause the limit to be exceeded.
- The sale of a second home with a sizable amount of untaxed appreciation.
- Inherited IRA or retirement accounts that are not stretched over 10 years or more (taxed as ordinary income in the year received).
- Lottery Winnings
- Inherited tax deferred annuities are taxable in the year received
The list can go on but I think you get the point. There are considerations and pre-planning that can prove to be prudent as you consider means of generating the necessary income needed.
A few suggestions that could help in avoiding MAGI penalties:
- Make the withdrawals from money that has already been taxed (savings, CD’s, checking accounts, money market funds).
- Avoid withdrawals that create additional taxable income (IRA’s, 401(k) other retirement accounts).
- If taxable interest derived from CDs and savings accounts are causing the limit of MAGI to be exceeded, consider tax deferred accounts as an alternative. Tax free bonds are included in the MAGI calculation for income.
- Charitable contributions can now be made directly from retirement accounts, being paid to the charity without having to claim the donation as additional income. The transfer also qualifies for the RMD (required minimum distribution) new tax provision.
MAGI catches a lot of retirees off guard until it’s too late. Understanding the limits and being aware of appropriate places to withdraw money from can be helpful in keeping MAGI out of your monthly income.
The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While we are familiar with the tax provisions of the issues presented herein, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.