What does cashing in an IRA, or perhaps converting to a Roth IRA, have to do with Medicare premiums? Maybe a lot . . . a lot of your money.
Occasionally a person going into a nursing home may have to cash in an IRA. In other situations converting a traditional IRA into a Roth IRA may make financial sense. At the right time and with the right advice these may be smart moves. But there can be a hidden cost that many advisors never think of.
Medicare Premiums and Income
First a bit of background on Medicare Part B premiums. Medicare is a federal health insurance program. Part B covers visits to and services by various providers. The insured pay for coverage with premiums, usually by deductions from monthly Social Security checks.
Most Medicare enrollees (72%) have been paying $96.40 monthly Medicare premiums the past few years and may be surprised to learn that the 2011 premiums are actually $115.40 a month. But federal law provides a “hold-harmless” provision that says that for most people the premiums will not go up more than any Social Security cost of living adjustment for the year. As we all know, Social Security has not gone up the past few years, so neither have the Medicare premiums. Had there been a Social Security adjustment for 2011, the monthly premiums could have been as high as $115.40.
The other 27% are not so lucky. For people who do not have premiums deducted from their Social Security checks and for new enrollees the 2011 $115.40 a month applies.
For those pulling in a bit more than average the premiums get even steeper. Individuals with annual income of between $85,000 and $107,000, and married couples with income between $170,000 and $214,000 will pay monthly premiums of $161.50. An individual with income between $107,000 and $160,000 ($214,000 and $320,000 for a couple) will pay $230.70 monthly premiums. There are a number of other brackets that scale upwards until premiums hit $369.10 monthly. You may review the 2011 Medicare premiums, co-pays and deductibles here on this website.
The Social Security Administration looks at income reported two years ago to determine Medicare premiums. In other words, 2009 income is used to determine 2011 premiums.
The Rub: Converting IRAs to Roth IRAs
When someone cashes in an IRA – for whatever reason – the cash-in will probably be a taxable distribution. In other words, if Granddaddy converts a $100,000 IRA to a Roth IRA, he will likely have an extra $100,000 gross income for tax purposes.
The result: If Granddaddy had other income of $40,000, with his IRA conversion he will have reportable income of $140,000. That means in two years, he will be paying $230.70 in monthly Medicare premiums (using 2011 figures). That amounts to $1,611.60 extra that year.
I am not saying converting to a Roth IRA does not make sense. It may be a great move. Do be aware of the extra costs.
A reader asked me if that was a “hidden tax” and I disagreed with him. There is nothing hidden about it!