What Is Medicare Tax?

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What Is Medicare Tax?

What Is Medicare Tax?

The Medicare tax, sometimes known as the “hospital insurance tax,” is a federal employment tax that contributes to the Medicare insurance program. Medicare tax, like Social Security tax, is taken from an employee’s salary or paid as a self-employment tax.

Part A of the Medicare program, which covers hospital insurance for adults 65 and older, as well as persons with certain impairments or medical conditions, is funded by the Medicare tax. Medicare hospital insurance includes hospitalization, hospice care, nursing home care, and certain home healthcare.

Key Takeaways

  • Medicare taxes fund hospital, hospice, and nursing home expenses for elderly and disabled individuals.
  • In 2022, the Medicare tax rate is 2.9%, which is split between an employee and their employer.
  • Self-employed individuals are responsible for both portions of Medicare tax but only on 92.35% of business earnings.
  • There are two additional Medicare surtaxes that apply to certain high earners.

How Medicare Tax Works

Almost everyone who works in the United States is obligated to pay Medicare taxes. Employers are obligated to withhold Medicare and Social Security taxes from workers’ paychecks under the Federal Insurance Contributions Act (FICA). Similarly, the Self-Employed Contributions Act (SECA) requires self-employed individuals to pay Medicare and Social Security taxes as part of their self-employment tax.

Medicare and Social Security taxes are placed in trust funds managed by the United States Treasury. The Medicare tax is deposited into the Hospital Insurance Trust Fund and used to fund Medicare Part A. The Supplemental Medical Insurance Trust Fund, which is supported by beneficiary premiums, tax income, and investment gains, covers the costs of Medicare Part B (medical insurance) and Medicare Part D (prescription drug coverage).

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The funds are designed for both present and future Medicare recipients; however, the Hospital Insurance Trust Fund has been under solvency and budget difficulties and is predicted to be depleted by 2026, according to the 2021 Trustees Report. If this occurs, Medicare services may be reduced or legislators may find other methods to fund these benefits.

2022 Medicare Tax Rates

In 2022, the Medicare tax rate will be 2.9%, divided equally between employers and workers. W-2 workers pay 1.45%, with the remaining 1.45% covered by their employer. Self-employed persons must pay the whole 2.9% since they are both an employee and an employer. Unlike the Social Security tax, the Medicare tax has no income cap.

The Medicare tax applies to an individual’s Medicare earnings. Wages, tips, vacation allowances, bonuses, commissions, and other taxable perks are examples of earned income.

Medicare Surtaxes

To support Medicare expansion, the Affordable Care Act (ACA) imposed two Medicare surtaxes in 2013: the extra Medicare tax and the net investment income tax. Both surtaxes apply to high-income people and target various categories of income. A taxpayer may be required to pay both Medicare surtaxes.

Additional Medicare Tax

Individuals whose earned income (including wages, compensation, and self-employment income) surpasses specific criteria are subject to an extra Medicare tax. Single filers earning more than $200,000 and married couples filing jointly earning more than $250,000, for example, are liable to an extra Medicare tax.

The extra Medicare tax rate is 0.9%, although it only applies to income beyond the taxpayer’s threshold limit. For example, if you earn $225,000 per year, the first $200,000 is due to 1.45% Medicare tax, while the remaining $25,000 is subject to 0.9% Medicare tax.

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The surtax, like the original Medicare tax, is taken from an employee’s salary or paid with self-employment taxes; however, there is no employer-paid component of the extra Medicare tax, so the employee must pay the whole 0.9%.

Net Investment Income Tax

As of 2021, the net investment income tax, commonly known as the “unearned income Medicare contribution surtax,” is a 3.8% tax on net investment income. There is no employer-paid share, as there is with the supplementary Medicare tax.

Taxable interest, dividends, nonqualified annuities, capital gains, and rental income are all examples of net investment income. It excludes revenue that is already exempt from taxation, such as tax-free municipal bond interest. Net investment income tax is levied on net investment income or the excess of modified adjusted gross income (MAGI) above specific levels, whichever is smaller.

Assume that a married couple filing jointly earned $225,000 in salary. The couple additionally got $50,000 in investment income during the same tax year, increasing their MAGI to $275,000. For married couples filing jointly, the net investment income tax threshold is $250,000.

The couple must pay 3.8% tax on the lesser of their excess MAGI ($25,000) or total investment income ($50,000). In this situation, the pair would be required to pay $950 in net investment income tax (3.8% x $25,000).

What Is Medicare Tax Used for?

The Medicare tax is used to pay the United States’ Medicare health-care system. The tax dollars are used to support Medicare Part A, which provides hospital insurance to seniors and those with disabilities. Part A payments include hospital, hospice, and nursing home care.

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What Is the Medicare Tax Rate?

In 2022, the Medicare tax rate is 2.9%. This payment is divided equally between the employer and the employee, with each paying 1.45%. The sum is deducted from an employee’s paycheck.

Do I Have to Pay Medicare Tax?

Yes, even if you or your employer are not citizens of the United States, you must pay the Medicare tax if you work in the nation. The sum is automatically deducted from your paycheck.

The Bottom Line

Individuals are subject to the Medicare tax in order to pay the Medicare system. The tax, like the Social Security tax, is levied on people’s salaries. The Medicare tax rate is 2.9%, shared equally between the employer and the employee.

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