If you earn a paycheck, you have likely seen several FICA taxes withheld from your earnings. Even for self-employed people, you must still pay these income taxes to the IRS.
However, what are all these taxes? There is the Social Security tax, Medicare tax, and other payroll taxes that you are required to pay.
In this article, we will examine the Medicare tax in more detail. We will tell you exactly what the Medicare tax is, how much it costs, and who has to pay it. Keep reading to get all the details.
What Is The Medicare Tax?
The Medicare tax is a Federal income tax withheld from your earnings to fund a portion of the Medicare program. You might also hear this tax called the hospital insurance tax. Under the Federal Insurance Contributions Act (FICA), employers must withhold certain taxes that fund Federal insurance programs like Medicare and Social Security.
Self-employment income is also subject to this tax, and the Self-Employed Contributions Act makes this self-employment tax withholding mandatory.
These taxes pay for the Medicare Part A program. Many people qualify for premium-free Part A coverage because they have paid these taxes throughout their working years. Medicare Part A covers inpatient services and hospital stays.
Medicare Part B, or Medicare’s medical insurance, is funded mainly through monthly premium payments. In addition, cost-sharing occurs through coinsurance payments. Part B covers outpatient services, doctor visits, and lab tests.
KEY TAKEAWAYS
- Medicare tax is a federal income tax withheld from your earnings to fund a portion of the Medicare program.
- Everyone with earned income must pay Medicare tax; your employer typically pays half the tax, and you pay the other half unless you are self-employed, in which case you pay 100%.
- High earners earning above a designated amount must pay an additional medicare tax on top of the standard rate.
How Does The Medicare Tax Work & Who Pays It?
Generally, there is nothing that you need to do when it comes to paying the Medicare tax. These payments are automatically withheld from your earned income and submitted to the Internal Revenue Service by your employer.
Earners will see a breakdown of these taxes on their paycheck stubs. The tax rate will be discussed in more detail later in this article, but generally, the Medicare tax rate is the same regardless of your total taxable income.
This tax applies to all employees and self-employed individuals. While you may not enjoy paying the tax, however, there are only a few ways to avoid it. In limited circumstances, certain religious groups and others may opt out of paying Social Security and Medicare taxes. However, the process to opt out is extremely strict, and you cannot receive Social Security or Medicare benefits in the future once you opt out of the taxes.
So, what happens to the taxes that are collected? These taxes are placed into the hospital insurance trust fund and used to fund Medicare, which is then used to pay for Medicare Part A coverage.
Medicare Part B and Medicare Part D prescription drug coverage are funded through monthly premium payments by beneficiaries, earnings on trust fund investments, and some tax revenues.
Many people wonder about the future of Social Security and the solvency of these trust funds. The trust funds have enough money to pay all of their Social Security benefit liabilities through 2035, although things may have to change after that. No one knows for sure what those future changes might look like.
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Medicare Tax Rates For 2024
So, how much is Medicare tax in 2024? The total Medicare tax rate is 2.9%. This amount is split between the employee and employer, with each paying 1.45%. This creates one disadvantage for self-employed individuals. Those individuals are treated as both the employee and employer. Therefore, they must pay the complete 2.9% Medicare tax alone. This is why the self-employment tax seems a little higher than the tax on a traditional employee.
Medicare taxes also apply to many different types of income. You must pay the tax on Medicare wages or earned income, such as wages and tips. The tax laws also require tax payment on other forms of income, such as bonuses, commissions, and even taxable benefits.
Typically, these taxes are withheld by your employer each pay period. You may see these taxes lumped together with the Social Security tax into a single line item on your paystub called FICA taxes. The total FICA tax rate is 7.65%. This amount includes both the Medicare tax and the Social Security tax. These rates are the same for all filers regardless of filing status. So, all taxpayers will see these identical amounts on their tax returns.
Previously, Medicare taxes did not apply to unearned income. However, that changed in 2013 due to the Affordable Care Act (ACA); thanks to the net investment income tax levied by the ACA, you might now owe Medicare taxes on capital gains or other unearned income. We will discuss the details of this tax more in a later section of this article.
Medicare Tax Wage Limits
You probably already know that there is a wage limit on Social Security taxes. In 2024, the Social Security tax limit is $168,600. This means you will not pay Social Security taxes on any income above $168,600 during the calendar year.
However, there is no wage base limit for Medicare taxes. You will owe Medicare taxes on all earned income during the year, regardless of how high your adjusted gross income goes. The amount owed on earned income above $200,000 ($250,000 if married) is called the Additional Medicare tax, and it will be discussed in more detail in the next section.
TIP
Typically, only “earned income” was subject to Medicare tax. Under the new Affordable Care Act, there is now a tax on capital gains, rental income, nonqualified annuities, and other items. If you are a high earner with these types of income, you should plan to pay this new tax.
Additional Medicare Tax
The Affordable Care Act introduced two new Medicare surtaxes in 2013 to help fund Medicare expansion: the net investment income tax and the additional Medicare tax. Here are the details of each.
Net Investment Income Tax
First, the net investment income tax subjects some unearned income to Medicare taxes. Before the ACA, only earned income was subject to the Medicare tax. This tax applies to capital gains, rental income, nonqualified annuities, and other items.
The rate of this tax is 3.8%. Income from most retirement plans would be excluded from this tax, but you should check with your financial expert.
Additional Medicare Tax
The additional Medicare tax applies to individuals whose income exceeds $200,000 or married couples filing jointly whose income exceeds $250,000 annually. These people would pay the regular Medicare tax of 2.9% on income up to this limit. They would then owe an additional Medicare tax of 0.9% on all income above the threshold.
Consider this example. Suppose an individual earns $500,000 in 2024. Medicare taxes of 2.9% would be owed on the first $200,000 of that income. Then, an additional Medicare tax of 0.9% (total of 3.8%) would be due on the $300,000 of income above the threshold.
The Bottom Line
Although these Medicare taxes might seem complex, most rules are relatively simple and could be broken down into Medicare for Dummies. Medicare taxes help fund the Medicare health insurance program.
The program aims to help lower healthcare expenses for people of old age and those on disability insurance. Medicare taxes of 2.9% are due on all earned income, but these are split evenly between the employee and employer. For income above $200,000 ($250,000 for married couples), an additional Medicare tax of 0.9% is due since there is no Medicare wage limit. There is no employer portion of the additional Medicare tax.
With the recent net investment income tax, you might also owe Medicare taxes on some unearned income, such as capital gains and rental income.
Frequently Asked Questions
Are you wondering, “Why do I pay Medicare tax?” You are required to pay a Medicare tax to help fund Medicare Part A. Most Part A beneficiaries are not required to pay a premium because the program is funded by these taxes.
The tax revenue is placed into the hospital insurance trust fund managed by the Social Security Administration. You pay into the system during your working years, and you receive this hospital insurance coverage at no charge upon reaching age 65.
Generally, no, you cannot opt out of the Medicare tax. However, there are a few limited exceptions that allow an individual to opt out of Social Security and Medicare taxes. There are strict rules around the opt-out process, and you must comply totally with the rules to qualify.
- The exemption usually only applies to certain religious groups or members of the clergy.
If you do qualify to opt out, you must complete documentation with the IRS to begin the opt-out process. Opting out requires some active steps on your part to apply and be approved. You cannot simply request that your employer stop withholding these taxes from your paycheck.
No, just because you see the Medicare tax withheld from your paycheck does not mean you have insurance. This means that you are paying into the Medicare system.
Medicare, like Social Security, is a pay-as-you-go system. This means that today’s workers are paying for today’s beneficiaries. Once you reach age 65 and begin your Medicare benefits, those benefits will be paid for by taxes collected from current workers.
Your Medicare coverage does not begin until age 65 in most cases, even though you are paying into the system today through Medicare tax withholdings.
You can find a Social Security Administration office near you by using our SSA office locator and searching for your closest location.
