As part of ThinkAdvisor’s 23 Days of Tax Planning Advice: 2016 series throughout March, in this post we’ll put the individual shared responsibility provision of Obamacare under the microscope. We’ll discuss the rules and penalty for those who fail to maintain qualified health care coverage throughout the year, since employers and employees who don’t comply will need to make payments when filing their federal income tax returns.

There are many rules surrounding this portion of the Affordable Care Act. Starting January 1, 2014, individuals who fail to maintain minimum essential health coverage for the entire year or obtain a qualified exemption are subject to a tax penalty for each month they are without coverage. This tax applies to employers, individuals and even dependent children. Because of its length and complexity, we will not define minimum essential health coverage or list the qualified exemptions. If you would like more details, click here

The Penalty

As noted in the following table, the penalty is the greater of the percentage amount or the flat dollar amount.

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To explain how the penalty is calculated, let’s look at an example of a married couple and their ACA liability. Here are the basic assumptions:

  • Calendar Year: 2015
  • Married Couple
  • Tax Filing Status: Married Filing Jointly
  • Age(s): Both are under 65
  • Children/Dependents: 3
  • MAGI: $125,000
  • Health Care Coverage: No coverage entire year

Their 2015 penalty is the greater of:

a) 2.0% of their income that exceeds their filing threshold requirement, or

b) $325 per adult, plus $162.50 per child, up to the family maximum of $975

Here are their numbers:

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Under the percentage method, their penalty is $2,088. Using the flat dollar method, it is $975. The greater of the two is under the percentage method.

The final step is to compare the $2,088 penalty with the national average premium for an ACA bronze health care plan. In 2015, this was $207 per individual per month or $2,484 annually. There are five members in this family so $2,484 x 5 = $12,420 (Note: The maximum premium is limited to five family members). Because $2,088 is less than the national average premium for a bronze plan in 2015 (i.e. $12,420), their 2015 shared responsibility fee is $2,088.

What to Remember

Here are a few important items related to the shared responsibility penalty:

1) The applicable penalty is 1/12 of the annual fee multiplied by the number of months without coverage.

2) Household income includes the income of all family members who are required to file a tax return.

3) Household income is the modified adjusted gross income or MAGI, which is AGI plus excludible foreign income, non-taxable Social Security income (excluding SSI), and tax-exempt interest.

4) The maximum penalty cannot exceed the national average premium for a bronze health plan.

5) Health care coverage is reported on IRS Form 1095-A (insurance through the marketplace); 1095-B (insurance through a health care provider); or 1095-C (employer provided, including self-insured).

6) The IRS cannot use liens or levies to collect the penalty. It can reduce a tax refund to collect.

This is a complex law, but it is important to understand the rules since a failure to comply may be costly. In 2016, the penalty is substantially greater than it was in 2015. In addition, it is indexed to inflation beginning in 2017.