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December 5, 2012

MEDICARE PART A: IRS issues proposed rule governing additional Medicare tax mandated by PPACA

By Susan L. Smith, JD, MA

The Internal Revenue Service (IRS) has issued a proposed rule governing the additional hospital insurance tax (additional Medicare tax) on income above threshold amounts (Proposed rule, 77 FR 72268 , December 5, 2012). The proposed rule sets forth guidance for employers and individuals implementing the additional Medicare tax, which was added by sec. 9015 of the Patient Protection and Affordable Care Act (PPACA) (P.L. 111-148 ). In addition, the proposed rule addresses the requirements for filing a return reporting additional Medicare tax, the employer process for making adjustments of underpayments and overpayments of the additional Medicare tax, and the employer and employee process for filing a claim for refund of an overpayment of the tax. IRS announced that there is a public hearing scheduled on the proposed rule on April 4, 2013.

The additional tax. PPACA increased the employee portion of Medicare tax for wages received in any taxable year beginning after December 31, 2012, by an additional 0.9 percent of the Federal Insurance Contributions Act (FICA) wages that are in excess of certain threshold amounts: $250,000 in the case of a joint return, $125,0000 in the case of a married taxpayer filing a separate return, and $200,000 in any other case. In addition, there is no employer portion to correspond to the amount owed by the employee. The additional Medicare tax also applies to compensation paid to railroad employees taxed under the Railroad Retirement Tax Act (RRTA) and to self-employment income. To the extent the additional tax is not withheld by the employer, the employee must pay the tax. For example, if an employee and his or her spouse had wages of $200,000 or less so that the employer did not withhold the additional Medicare tax, but their combined wages exceed the threshold for a joint return, the employee and spouse are liable to pay the additional Medicare tax.

Proposed rule. The proposed regulations provide rules for the withholding, computation, reporting, and payment of the additional Medicare tax on wages, self-employment income, and RRTA compensation. IRS notes that calculating wages for the additional Medicare tax is no different than calculating wages for FICA in general. Under the proposed rule, the employer would be required to withhold additional Medicare tax from the employee's wages only to the extent that the employee receives wages from the employer in excess of $200,000 in a calendar year. The employer would not take into account the employee's filing status or other wages or compensation that may impact the employee's liability for the tax. The employer, however, would be subject to penalties or additions to tax for failure to withhold the additional Medicare tax as required.

The proposed regulation also provides rules for when and how employers may make an interest free adjustment to correct an overpayment or underpayment of additional Medicare tax, and how employers and employees may claim refunds for overpayments of the additional Medicare tax. The rules for interest-free adjustments and claims for refund track the existing rules that apply to income tax withholding (ITW) rather than the rules that apply to FICA because there is no employer portion in either, and liability will be reconciled on the individual employee's income tax return. Under the proposed rule, adjustments for underpayments may be made only if the error is ascertained in the same year the wages or compensation was paid unless the underpayment is due to administrative error, due to the employer's failure to treat the individual as an employee, or the adjustment is a result of an IRS examination. An adjustment of an overpayment would be made only if the employer ascertains that the error in the year the wages or compensation was paid and repays or reimburses the employee the amount of the over collection prior to the end of the calendar year. An employer would only be able to claim refunds of overpaid additional Medicare tax if the employer did not deduct or withhold the overpaid additional tax from the employee's wages or compensation. Employees would claim a credit against, or refund of, tax on an individual tax return for the year in which the overpayment was made or a taxable year for which a tax return has been filed.

The IRS has posted questions and answers regarding the additional Medicare tax.

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