International Society of Primerus Law Firms

Health Care Reform and Tax Law Changes

Written By:

Dennis L. Monroe

Monroe Moxness Berg PA

Minneapolis, MN

As everyone is now aware, major healthcare reform was signed into law earlier this spring. In an effort to keep you fully informed, we are taking our own stab at a general overview and the tax issues of this recent legislation. I would like to thank my partner, Rick Gibson, who recently returned to the firm, for his contributions to this article.

The new law, a combination of the Patient Protection and Affordable Care Act, and the Health Care and Education Reconciliation Act of 2010 completes a massive overhaul of the health care system. The changes implemented under this legislation affect almost all taxpayers and employers. In addition to major reform to the health care industry (which is outside the scope of this article), the new law includes a number of new tax laws. This article will address certain key tax provisions in the new law and other important pending tax law changes that will likely impact your business.

Health Care Reform Tax Law Changes

One of the primary pieces of the new legislation is minimum essential coverage (sometimes referred to as universal health coverage) for years beginning after 2013. In order to encourage and/or pay for this new coverage, the new law imposes specific penalties on U.S. citizens and certain other residents if they fail to maintain the required coverage. The penalty is phased in over a number of years and is subject to a number of exemptions, indexes and other specific requirements.

Related to this required coverage, the law imposes new responsibilities on employers. Beginning after 2013, employers with an average of at least 50 full-time employees must offer certain minimum coverage to its employees or pay a penalty if certain employees of that employer are required to purchase health insurance through an insurance exchange. Employers may also have to provide vouchers to employees that can be used for reducing the cost of such employees insurance. While a number of details have yet to be worked out regarding the application of these various provisions, it is clear that beginning after 2013, there will be additional costs imposed on individuals and businesses in connection with expanding health insurance coverage for uninsured and underinsured individuals.

In addition to these penalty premiums or direct costs, there are a number of new taxes related specifically to health care. A new excise tax, beginning after 2017, is levied on insurance companies and plan administrators for health coverage plans to the extent that the annual premium costs exceed certain amounts (currently established at $10,200 for single coverage and $27,500 for family coverage). There is an additional Medicare hospital insurance tax, applicable after 2012, imposed on individual taxpayers earning over $200,000 ($250,000 for married couples filing jointly). For such taxpayers, the rate of the hospital insurance tax is increased by 0.9 percentage points. There is also an additional surtax on unearned income under the new legislation. Beginning after 2012, a surtax of 3.8% will be applied to net investment income (dividends, interest, capital gains, etc.) for higher income taxpayers and certain estates and trusts. This surtax is subject to a number of complex calculations and exemptions.

The new law also limits contributions to health Flexible Spending Accounts (FSAs) to $2,500 per year and imposes some limits on the definition of medical expenses that can be reimbursed through FSAs and certain other plans. The new legislation also modifies the threshold at which individuals can claim medical expense deductions. For tax years after December 31, 2012, the adjusted gross income threshold for claiming an itemized deduction for medical expenses is increased from 7.5% to 10% (subject to certain exceptions).

The new law also includes certain non-health care related revenue raising tax provisions. These include:

1.) Additional business information reporting (expanded 1099 reporting requirements);

2.) Codification of the economic substance doctrine and imposition of additional penalties for entering in to transactions that lack economic substance; and

3.) Increased estimated tax payments by large corporations.

Other Pending and Possible Tax Law Changes

In addition to the health care legislation, significant other tax law changes are also scheduled to take effect or are pending in Congress. Many of these are in the form of tax increases.

Repeal of Bush tax cuts: Although not part of any new legislation, the top ordinary tax rates (currently at 33% and 35%) are scheduled to return to 36% and 39.6% for years beginning after December 31, 2010. Related to these changes, the top tax rate on capital gains (federal) is scheduled to return to 20% from its current rate of 15%. The expiration of the Bush tax cuts would also have qualified dividends subject to the top ordinary income tax rates (as opposed to the capital gains rates). There is proposed legislation that would maintain the rate of tax on qualified dividends at the (modified) 20% capital gains rate.

Other tax law changes un-related to the health care legislation are various other modifications including: restoration of the phase out of personal exemptions, further reduction in itemized deductions and the ongoing extension of increased exemptions for alternative minimum tax.

Proposals to tax as ordinary income carried interests (partnership equity) partners receive for services provided to certain partnerships continue to be pushed forward. Congress also is looking at revising the estate tax system, which is scheduled to revert to the pre-Bush tax cut system on January 1, 2011. The now statutory PAYGO legislation and ongoing budget pressures will add further complexity to implementing these various tax law changes.

What to do

As mentioned, there is significant additional detail and information that is needed and will become available on the health care law and related tax law changes. In addition, it is likely that there will be significant debate regarding the non-health care related tax law changes that are either scheduled to take place or have been recently proposed. All of this will be hashed out in an economy that has stabilized but continues to provide challenges to many businesses and individuals.

In connection with these significant legislative changes and proposals, we suggest the following:

  • Calculate and anticipate the costs of the new health care requirements and monitor these through the phase in period to be appropriately apprised and prepared for these cost increases.
  • Examine your choice of entity for your current and proposed businesses. The proposed laws are very complicated and include a number of exceptions and have different treatment for different business structures, ownership make up, and types and sources of income. Ongoing review and modification of the structure for your business activities may be a key component in future tax planning.
  • Consider executing a transaction or locking in income in 2010. With rates almost certain to increase after this year, it is appropriate to look at completing transactions this year and other methods of locking in income at current tax rates.
  • You will likely benefit from an increased focus on income tax planning to make sure your structure and operation subject your income to the lowest effective income tax rates.

We will continue to monitor these new laws and proposals in order to provide appropriate and timely tax savings ideas.

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