The Affordable Care Act (ACA) over the past two years has changed the options for and costs for health insurance, especially for the self-employed. Self-employed taxpayers who are either single, or can’t get or their spouses or registered domestic partner’s health insurance plan, are required to get health insurance or pay a tax penalty of 2.5% of their modified adjusted gross income for tax years 2016 forward if they do not have health insurance.

The options are to get insurance on either through an exchange or off-exchange plan directly through a health insurance provider. Approved providers vary by both state and more importantly by county. In Alameda County, California individuals can get health insurance through either Covered California or an off-exchange plan choices are Anthem Blue Cross, Kaiser, and Blue Shield of California. However, if you live in San Francisco, the choices are Chinese Community Health Plan, Anthem Blue Cross, Blue Shield of California, Kaiser, and Health Net. So, it depends where you live who your providers are and what are your options.

Insurance Choices HSA or No HSA

To avoid the 2.5% penalty what health insurance coverage should I get. The ACA has health insurance coverage based on metal levels with Bronze being the lowest and most affordable premiums to Platinum that has the highest level of coverage and most expensive premiums. So, what type of insurance should I get and the answer at the end of the day is it depends. I’m going to discuss what makes sense from purely the tax perspective, and options for cash flows and budgeting. However, at the end of the you have to look at the whole picture and figure out what health insurance coverage is best for you.  For taxes, the best options are to have either a Bronze or Silver plan with a Health Savings Account (HSA) or a Gold or Platinum Plan with no or small deductible. The reason being is both of these options have their tax advantages/disadvantages. The first option is to either have a Bronze or Platinum plan with a HSA.

A HSA plan is a high deductible plan that basically you contribute a certain amount a year that has to go into a designated bank account only for health expenses only. A high deductible plan is a plan that has a deductible for at least $1,300 for an individual and $2,600 for a family. For 2016, the contributions limits are $3,350 for an individual and $6,750 for a family, plus a $1,000 additional contribution is you are 55 or older. Once you make the contributions, they are put into a HSA bank account. You use this account to pay for all out-of-pocket medical, dental, vision and alternative health practitioner expenses, up to your contributions. The HSA plan is tax advantageous because both the health insurance premiums paid and contributions to the HSA plan are 100% deductible. However, though these costs are 100% deductible, they are not deductions from your self-employed taxable income, nor will reduce your self-employment taxes to pay for both the employer and employee Social Security and Medicare taxes that cap at $118,500 and Medicare taxes that are unlimited base on your self-employment earnings. Otherwise, if you make up to $118,500 in self-employment income you will have to pay self-employment taxes at 15.3%, and if you make $150,000 then for the first $118,500 you will have to pay self-employment taxes at 15.3% and 2.9% for Medicare taxes from $118,501 to $150,000. This does not factor the additional ACA self-employment earnings tax at .9% if you make over $200,000 if you are single and $250,000 if you are married.

A potential disadvantage of having a HSA plan, is though you are paying lower premiums and your out-of-pocket expenses are deductible up to the HSA contributions limits. Any amounts that you pay over the HSA contributions are not deductible, unless they are above 10% of your adjusted gross income if you are using itemized deductions. For example, you were sick that year, had to go to multiple doctors’ appointments, tests, etc. but the total amount spent for out of pocket medical expenses that year was $6,000. Since your HSA contribution if you were single was $3,350, then you had $2,650 in additional medical expenses that were not deductible if you made $50,000 during the year. The reason being is the guaranteed deduction for medical expenses is the HSA plan contributions. However, above the contributions, the medical expenses are only deductible as itemized deductions for medical expenses. Medical expenses do not start becoming deductible as itemized deductions, unless they are not 10% or greater than your adjusted gross income. Otherwise, if you make $50,000 a year, then if you have out of pocket medical expenses under $5,000 above the used HSA plan contributions, then you get no tax benefit for these additional medical expenses. So, if you had $2,650 in additional medical expenses above the HSA plan contributions, then they would not be deductible if you made $50,000 during the year.

Another disadvantage of the HSA plan, is if you withdrawal amounts from the HSA plan that are not for medical expenses, or close your HSA account, the remaining balance has a 20% withdrawal penalty with the IRS.

Finally, though HSA contributions is 100% deductible for Fed, it is not deductible for CA taxes.

Another option is to get Gold or Platinum plan with no or low deductible. The tax advantage is that though you are paying higher premiums for the Gold or Platinum plan versus and Bronze or Platinum Plan, the higher level plans have either low or no deductible an only require the low deductible if applicable, co-insurance and co-pays, which at the end of the day, hopefully will reduce your out of pocket expenses that more likely than not will not be deductible. Otherwise, you pay more for the health insurance premiums that are 100% deductible, but incur or hopefully incur low out-of-pocket expenses that are not deductible. For example, in 2015, I was on a Gold plan. The plan’s provisions were $0 deductible, $30 co-pay for primary care doctor appointments, $50 co-pays for specialists, and 20% co-insurance. My insurance premiums will be 100% deductible, however, based on my income I know that my out of pocket medical expenses will not be deductible, but the total amount of out-of-pocket medical expenses are hedged based on having pay significantly lower out of pocket expenses with co-pays and co-insurance versus a HSA plan where you have to pay all out-of-pocket medical expenses, until you reach your deductible. So, at the end of the day with a higher level plan, though your insurance premiums are higher, they are 100% deductible, and hopefully reducing your out-of-pocket medical expenses through lower co-payments and co-insurance.

Buying Insurance with Exchange or Off-Exchange

Another consideration is whether you want to get insurance through an exchange as Covered CA or an off-exchange plan directly with a health insurance carrier depends from the tax perspective on your expected income to qualify for the health insurance premium credits or not. The health insurance premiums credits are available if your modified adjusted gross income is under 400% Federal Poverty Level. For 2016, the 400% Federal Poverty Level income caps are $47,080 if you are single, $63,720 if you are married with no children, and $97,000 if you are married with two kids. If your kids are 35, not living at home, then they don’t count J. In addition, if you state to the exchange that your income is lower than your modified adjusted gross income is on your tax return and your income is above the 400 % Federal Poverty Level, you will have to pay back all the premium credits back as Federal taxes when you file your annual tax return. So, let’s say on your application with Covered CA, you are single and you will be making $35,000 and you get $100 a month health insurance premium credit. If you make $50,000 you will have to pay $1,200 back on your tax return. However, if you make $30,000 then you will get a tax credit on your tax return for additional premium credits.

Another issue about the exchanges is the time/paperwork required. This is probably worth it if you believe you qualify for the credit or you are not sure what your income will be the coming year during open enrollment and if it lower and under 400% of the Federal Poverty Level you would be entitled to the credit if you signed up on the exchange. However, if signed-up on an off-exchange plan through an insurance carrier, then if your income was below 400%, then you could not qualify for the credit. So, at the end of the day it does not hurt to get insurance through the exchange for an individual plan, but there might not be a tax benefit if your income is above 400% of the Federal Poverty Level. However, if you do enroll on an off-exchange plan, in general it will take you less time and paperwork to enroll into the plan.

Health Care Options ACA Compliant and Non-Compliant

ACA has many rules for plan coverage that qualifies as health insurance and also to be able to get the self-employed health insurance deduction. However, there is a difference between cash and tax, and if your total amount paid for health care coverage overall is greater than the tax benefit for alternative health care coverage, for managing cash flows and budgeting it may make sense to consider alternatives to getting medical coverage that is not on the exchange or an off exchange plan. The first alternative to consider is medical coverage through Christian Healthcare Plans. If you are enrolled in these plans, then you will not be subject to the ACA penalty for not having health insurance. However, the tax disadvantages are these plans are not considered health insurance by the IRS. Therefore, the amounts can’t be deducted as health insurance on your tax returns for self-employed health insurance nor as a medical expense as part of your medical deductions if you have itemized deductions on your personal tax return. In addition, you can’t claim the premiums that you pay for these plans as charitable deductions as well. Finally, you need to do your homework to determine if these plans make sense for your current and expected health needs.

The other option, it depends if these plans are allowed by state, and you would have to consult with an insurance broker to determine if the plans are available are short-term catastrophic insurance plans that are not ACA compliant. In this strategy, you still pay the 2.5% modified adjusted gross income penalty for not having health insurance, however, you do have health insurance coverage if you get into a major accident and the total amount you would have to pay for with the 2.5% penalty plus the short-term catastrophic coverage maybe less than the total premiums you would have with a Bronze Plan with a very high deductible. So, this may make sense on a case by case basis and you need to do your homework to determine if this viable option as well.

Conclusion

So, what type of health insurance should you choose if you are self-employed? The answer it depends. I have shown options from tax savings, cash flows, and budgeting. However, when one shops for insurance they need to make an overall decision based on their current health, what their expected medical expenses will be, and what makes sense, not purely for tax savings or for potentially maximizing short-term cash flows.