The National Association of Enrolled Agents recently released a warning that the Affordable Care Act Marketplace may complicate tax returns. The NAEA is an organization of tax professionals that are specially licensed...
- The Tax Policy Blog
- Obamacare’s Inflation Taxes
Obamacare’s Inflation Taxes
Two of the taxes introduced in the Affordable Care Act (ACA) are not indexed for inflation. As incomes rise with inflation, more Americans will be subject to these new and burdensome taxes. This lack of inflation indexing flies in opposition to the treatment of most other taxes in the ACA as well as many other federal tax provisions.
The Additional Medicare Tax of 0.9 percent is a payroll tax and the Net Investment Income Tax of 3.8 percent is a tax on investment income. Each tax applies to individuals over a non-indexed threshold of $200,000 for single filers and $250,000 for married joint filers.
The Additional Medicare Tax of 0.9 percent adds to other payroll taxes: 12.4 percent Social Security tax on income up to $117,000, 2.9 percent Medicare Hospital Insurance tax on all income, and up to a 6 percent tax on the first $7, 000 earned for Unemployment Insurance. The Net Investment Income Tax increases the top marginal tax rate on capital gains and dividend to 23.8 percent.
By not indexing the income thresholds for these taxes to inflation, individuals and families currently earning below the income cutoff will eventually be subject to these two ACA taxes as inflation increases their nominal wages in the future.
As the prices of goods and services rise over time due to inflation, incomes rise too. If income and the price of goods and services rise at the same rate, an individual or family may appear to have higher income, but they will only be able to purchase the same exact amount of stuff each year. This is because increases in income as a result of inflation do not increase real wealth.
Due to the lack of inflation indexing, the ACA’s $200,000 threshold for taxation will stay the same as incomes increase. Taxpayers will increasingly find themselves subject to the threshold, paying higher taxes, even though they earn the same amount of real income. This phenomenon is called “bracket creep.” To keep inflation from pushing taxpayers into higher brackets, the federal income tax, social security taxes, other ACA taxes, and more than 40 other federal credits and deductions are indexed for inflation.
Indexing for inflation is important because it allows taxpayers to know what their real after tax income will be in the future. Without inflation indexing, taxpayers face uncertainty about future tax liabilities. For example, the lack of inflation indexing for capital gains taxes can create infinite effective tax rates.
This uncertainty about the real value of future tax payments violates a key principle of sound tax policy. Tax policy should be transparent, stable and not prone to unpredictable swings. Inflation indexing stabilizes real future taxes and ensures predictability.
Subscribe to the Tax Foundation Newsletter
Join the Tax Foundation's fight for sound tax policy Go
About the Tax Policy Blog
The Tax Policy Blog is the official blog of the Tax Foundation, a non-partisan, non-profit research organization that has monitored tax policy at the federal, state and local levels since 1937. Our economists welcome your feedback. If you would like to send an e-mail to the author of a blog post, please click on that person's name to locate his or her e-mail address or visit our staff page here.