How Is Income Calculated for Health Insurance Subsidy Eligibility?

The Marketplace (exchange) and IRS use MAGI but it's not the same as regular MAGI

Fact checked by Dale Brauner

If you buy your own health insurance in the U.S. (i.e., you don't get it from an employer or a government-run program like Medicare or Medicaid), you're probably aware of the premium subsidies (premium tax credits) created by the Affordable Care Act (ACA).

While most people are aware that subsidy eligibility is based on income, people often have questions about how your income is actually defined under the ACA.

This article will explain the ACA's version of Modified Adjusted Gross Income (MAGI) and how it's calculated.

Understanding MAGI

The ACA uses the term "Modified Adjusted Gross Income" (MAGI) to describe the way income would be calculated for premium subsidy eligibility. That's accurate terminology—the calculation is a modification of adjusted gross income.

But the concept of MAGI already existed for other tax-related purposes, and is calculated differently, which has resulted in some confusion.

The important takeaway here is to understand that MAGI for premium subsidy eligibility (and in many cases, Medicaid eligibility) is not the same as the MAGI definition that you might have already understood in the past. It's specific to health insurance and has its own rules.

And even within this category, the calculation is a little different for Medicaid and CHIP versus eligibility for financial assistance with private health insurance purchased in the exchange.

The good news is that it's calculated in a way that allows you more flexibility to dial in your MAGI in order to optimize your eligibility for premium subsidies.

Premium Subsidies, Cost-Sharing Reductions, Medicaid, and CHIP

ACA-specific MAGI is used to determine eligibility for premium subsidies (the subsidy is actually a tax credit that's available upfront or on your tax return) and cost-sharing reductions when people shop for coverage in their state's health insurance Marketplace/exchange. It's also used to determine eligibility for CHIP and Medicaid.

Medicaid Eligibility and MAGI

Note that not all Medicaid eligibility is based on MAGI; the ACA switched a large portion of Medicaid eligibility determinations to a MAGI-based system—without asset or resource limits. But the eligibility criteria for people who are blind, disabled, 65 or older, or dual-eligible for Medicare and Medicaid are different, and can still include asset/resource limits rather than just an income-based system.

How Does the Calculation Work?

If you're familiar with the concept of MAGI that's used in other settings, you know that it requires you to start with your adjusted gross income and then add back in various things, such as deductions you took for student loan interest and IRA contributions. (Note that AGI is found on your tax return; AGI is currently line 11 on Form 1040, although the placement on the form does sometimes vary from one year to another.)

But when it comes to ACA-specific MAGI, you don't have to add back either of those amounts—or most of the other amounts that you'd have to add to your income to get your regular MAGI.

Instead, the ACA-specific MAGI formula (defined in 26 U.S. Code 36B(d)(2)(B)) starts with adjusted gross income and adds back just three things:

• Non-taxable Social Security income (on the current Form 1040, this is Line 6a minus Line 6b).

• Tax-exempt interest (this is Line 2a on Form 1040)

• Foreign earned income and housing expenses for Americans living abroad (Form 2555)

For many people, the amounts of these three things are $0, meaning that their ACA-specific MAGI is the same as the AGI listed on their tax return. But if you do have amounts on your tax return for any of those three items, you need to add them to your AGI to determine your MAGI for premium subsidy and cost-sharing reduction eligibility.

For Medicaid and CHIP eligibility determination, some amounts are either subtracted or counted in a specific manner:

• Qualified lottery winnings and lump-sum income (including inheritances, tax refunds, etc.) is only counted in the month it's received if it's less than $80,000; larger amounts are prorated over a longer timeframe (Medicaid eligibility can be based on monthly income; premium subsidy eligibility, on the other hand, has to be based on annual income, so a lump-sum payment would affect the entire year's subsidy eligibility, whereas it may only affect a single month of eligibility for Medicaid.)

• Certain payments to American Indians and Alaska Natives are subtracted if they were included in AGI.

• Scholarships, awards, and fellowship grants are subtracted if they were included in AGI (as long as they were used for education expenses rather than living expenses).

• Nominal amounts received under government grants by parent mentors who help other families enroll in health coverage are not included in MAGI.

Related: How the Health Insurance Subsidy Works

Other MAGI Factors to Keep in Mind

MAGI is based on household income, but there are different rules for how a child's income is counted towards a family's household MAGI depending on whether the eligibility determination is for Medicaid/CHIP or for premium subsidies.

If a married couple wants to apply for premium subsidies in the exchange (or claim them on their tax return after paying full price for a plan purchased through the exchange), they have to file a joint tax return.

But if a married couple that lives together applies for Medicaid, their total household income is counted together regardless of how they file their taxes.

Premium subsidies are a tax credit, but they differ from other tax credits in that you can—and most people do—take them up-front instead of having to wait to claim them on your tax return. (Note that the money is paid on your behalf to your health insurer; it's not sent to you.)

That also means when you're enrolling in a health plan during open enrollment (November 1 to January 15 in most states, for coverage that will take effect January 1 or February 1), you'll be using a projected MAGI, based on what you estimate your income to be in the coming year.

If your income is steady from one year to the next, you can reasonably estimate your MAGI for the coming year based on your past year's tax return. But many people who purchase their own health insurance are self-employed and their income varies from one year to another—which can make it challenging to accurately project the coming year's MAGI.

Takeaway

Once the year is underway, if you start to notice that your actual income is diverging significantly from what you projected, you can report your updated income to the exchange and they can adjust your premium subsidy amount in real-time (or switch you from a private plan to Medicaid or vice versa, if your changed income results in a change in Medicaid eligibility status).

To account for the fact that premium tax credits are typically paid in advance throughout the year (sent directly to your health insurance company), they have to be reconciled on your tax return. If it turns out that the subsidy amount that was paid on your behalf throughout the year was too small, the IRS will pay you the difference when you file your taxes. But if the subsidy amount that was paid on your behalf was too large, you may have to repay some or all of it.

The details regarding premium tax credit reconciliation are explained in the instructions for Form 8962. Form 8962 has to be included with your tax return if a premium tax credit was paid on your behalf during the year or if you want to claim the tax credit on your tax return. This is true regardless of whether an adjustment to the subsidy amount is necessary on your tax return.

Related: Are Health Insurance Premiums Tax Deductible?

For the first several years that the health insurance exchanges were in operation, there was an income cap for subsidy eligibility, equal to 400% of the poverty level. That was the maximum amount you could earn and still qualify for a premium tax credit, so people who ended up earning more than this had to repay all of their premium tax credit to the IRS when they filed their tax return.

But the American Rescue Plan eliminated the repayment of excess subsidies for 2020 (nobody had to repay excess subsidies for that year, regardless of why they would otherwise have had to do so). The law also eliminated the income cap for subsidy eligibility in 2021 and 2022, and that was extended through 2025 by the Inflation Reduction Act.

So through 2025 (and possibly later, if the subsidy enhancements are extended again), subsidies are available to households that earn more than 400% of the poverty level, if the cost of the benchmark plan would otherwise be more than 8.5% of the household's income.

How Saving Money Might Make You Eligible for Subsidies

Because of the way ACA-specific MAGI is calculated, there are some actions you can take to reduce your MAGI and qualify for a larger subsidy than you might otherwise receive.

(If the income limit for subsidy eligibility is allowed to take effect again in 2026, this approach will once again be particularly important in order to avoid the "subsidy cliff" when MAGI exceeds 400% of the poverty level.)

Takeaway

Note that for premium subsidy eligibility the prior year's poverty level numbers are always used, since open enrollment for a given year's coverage is conducted before the poverty level numbers for that year are determined (for Medicaid and CHIP eligibility, current poverty level numbers are used, since enrollment in those plans continues year-round). So premium subsidy eligibility for 2024 will be based on how the enrollee's projected 2024 income compares with the federal poverty level numbers for 2023.

Premium subsidy eligibility extends well into the middle class, especially with the American Rescue Plan's subsidy enhancements that are in effect through 2025. But the higher your MAGI is, the lower your subsidy amount will be.

This is where it's helpful to understand that pre-tax contributions you make to retirement accounts will reduce your MAGI, as will contributions to a health savings account (assuming you have an HSA-qualified high-deductible health plan and are eligible to contribute to an HSA).

Depending on your employment situation and the health insurance plan you have, you may be able to set aside a significant amount of money in a pre-tax retirement account and/or a health savings account, and lower your MAGI in the process.

(Note that retirement accounts include traditional IRAs, but also things like 401(k)s, SEP-IRAs, SIMPLE-IRAs, solo 401(k)s, which tend to have higher contribution limits. But contributions to ROTH retirement accounts do not reduce MAGI, as those contributions are not made pre-tax.)

This might mean that you receive a subsidy when you would otherwise have had to pay full price for your coverage, or it might mean that you receive a larger subsidy than you'd have received without the pre-tax contributions.

You'll want to consult with a tax professional if you have questions about your specific situation. Just keep in mind that contributions to things like an HSA or traditional IRA (but not a Roth IRA, since those contributions aren't pre-tax) will reduce your ACA-specific MAGI, even though they don't reduce other types of MAGI calculations.

Summary

Under the ACA, eligibility for premium subsidies, cost-sharing reductions, and certain types of Medicaid is based on an ACA-specific version of Modified Adjusted Gross Income (MAGI). This is not the same as MAGI calculations used for other purposes. For many people, ACA-specific MAGI is the same as the AGI that's listed on their tax return. But there are a few things that have to be added to AGI to get the ACA's MAGI, if applicable (tax-exempt interest, non-taxable Social Security benefits, and foreign earned income).

It's noteworthy that contributions to an HSA and/or pre-tax retirement account will lower a person's ACA-specific MAGI, potentially resulting in additional financial assistance with health coverage.

A Word From Verywell

As with any tax-related topic, you'll want to consult with a certified accountant or financial planner when you're making decisions about your finances. But if you need to obtain your own health insurance, you'll want to keep in mind that there are steps you can take to change your ACA-specific MAGI without changing the total amount that you earn.

Contributing to an HSA and/or a pre-tax retirement account might end up being a win-win: You'll have money tucked away for the future, and you might also qualify for more financial assistance when you shop for coverage in the exchange/marketplace.

Read the original article on Verywell Health.