Medicare tax is used to fund hospital costs, hospice care, and nursing home expenses for elderly and disabled individuals.
On top of that, there are two additional Medicare taxes that apply to certain high earners.
In this article, we will discuss Medicare tax, how it works, how you pay it, how much it costs, what it is used for, its additional surtaxes, and much more.
Medicare tax, which is also called hospital insurance tax, is a federal employment tax that all Americans pay to fund Medicare Part A.
Similar to Social Security tax, Medicare tax is taken out of an employee's pay or paid as a self-employment tax.
However, unlike social security, Medicare is also financed through:
Income taxes paid on social security benefits
Interest earned on social security trust-fund investments
Funds authorized by Congress
This means that Medicare isn't entirely dependent on the amount of FICA payroll taxes that people pay.
FICA tax is a United States federal payroll tax and it is deducted from each paycheck.
Your nine-digit Social Security (SS) number helps to accurately record your covered wages or self-employment. As you work and pay FICA taxes, you earn credits for SS benefits.
Medicare Part A covers hospital insurance for people who are 65 or older and who have specific disabilities or illnesses, such as amyotrophic lateral sclerosis (ALS), also known as Lou Gehrig's disease, or end-stage renal disease (ESRD).
Medicare Part A pays for:
Nursing home care
Specified home health care
Medicare tax is a two-part tax which means that you and your employer both make contributions toward it.
The amount you pay is based on your taxable wages and is deducted automatically each month through your employer's payroll system.
Medicare taxable wage refers to the amount on which Medicare tax is paid. It is calculated as the employee’s gross earnings minus non-taxable items, without any maximum on gross wages.
You can calculate this by taking your gross pay (how much money you earn before tax) and subtracting pretax health care deductions from your pay, such as:
The Internal Revenue Service (IRS) Employer's Tax Guide states that your employer must collect the tax, and your employer then sends both their own and your tax contributions to the IRS through regular electronic deposits.
The process works slightly differently for self-employed workers because they are responsible for the full amount. However, self-employed workers are required to pay their Medicare tax as a part of their self-employment tax.
Instead of being taken out of a paycheck, self-employment tax is paid through quarterly-estimated tax payments.
The Medicare tax rate is 1.45% for the employer and 1.45% for the employee, to arrive at a total of 2.9% of an employee’s Medicare taxable wage.
For example, let’s say you earn $6,000 a month and pay $400 in medical insurance. Your Medicare Taxable Amount will be $6,000 and you will have 1.45% ($87) deducted from your wages. Your employer will also need to pay 1.45% ($87).
Gross earnings or gross income for an individual consists of income from:
Since 1986, the Medicare tax rate hasn't changed. However, the Additional Medicare Tax for people who make a lot of money was put in place in 2013, as part of the Affordable Care Act.
The Affordable Care Act (ACA) is the name of the U.S.’s comprehensive health care reform law and its amendments.
The law addresses health insurance coverage, health care costs, and preventive care.
There are two more Medicare surtaxes that apply to certain high earners, namely additional Medicare tax and net investment income tax.
However, the latter mostly focuses on investment income, while additional Medicare tax is calculated from the same income as standard Medicare tax.
The additional Medicare tax applies to wages, the Railroad Retirement Tax Act (RRTA) compensation, and self-employment income over certain thresholds.
The Railroad Retirement Act (RRA) is the benefits system through which payments are made to retired railroad workers.
The additional Medicare tax rate is 0.9%. Employers are responsible for withholding the tax on wages and RRTA compensation in certain circumstances.
If your income level requires you to pay the Additional Medicare Tax, your Medicare tax rate is 2.35% (1.45% + 0.9%). However, this Medicare surtax only applies to individual incomes in excess of $200,000.
For example, if you make $250,000 a year, you'll pay a 1.45% Medicare tax on the first $200,000, and 2.35% on the remaining $50,000.
The two things that determine whether you have to pay additional Medicare tax are your tax filing status and your income.
The table below explains who is liable for this tax:
|Tax Filing Status||Minimum Income|
|Married filing jointly||$250,000|
|Married filing separate||$125,000|
|Head of household (with a qualifying person)||$200,000|
|Qualifying widow or widower with dependent child||$200,000|
All employees who work in the U.S. must pay Medicare tax, no matter what their citizenship or residency status is.
Even if you earn money outside the U.S. while still residing in the country, you may have to pay Medicare tax on that income. Your boss should be able to tell you whether this applies to you.
If incorrect Medicare tax amounts are taken out of your paycheck, you should contact your employer and ask them for a refund.
If your employer has withheld Social Security or Medicare taxes in error, follow these steps:
Medicare Tax funds the Medicare program and helps pay for the Hospital Insurance (HI) trust fund, which covers Medicare Part A, along with the Supplemental Medical Insurance (SMI) trust fund, which covers Medicare Part B and Medicare Part D.
Generally, Medicare tax is used to cover the cost of:
Fighting Medicare fraud and abuse
Collecting Medicare taxes
Paying Medicare benefits
If you are self-employed, you’ll need to pay 2.9% of your earned income toward Medicare tax.
You have to pay self-employed tax if:
You are self-employed with earnings of $400 or more in a year (with the exception of church employee income).
You earned a church employee income of $108.28 or more in a year.
Regardless of how old you are or if you are getting social security or Medicare benefits, individuals in this category have to pay self-employed tax.
Medicare Tax is included in a self-employment tax, which covers the entire 15.3% of your FICA taxes. This ensures that you pay your share of Social Security and Medicare taxes.
The 15.3% self-employment tax rate consists of two parts: 12.4% for social security (old-age, survivors, and disability insurance) and 2.9% for Medicare (hospital insurance).
A self-employed worker may deduct the employer-equivalent amount of their self-employed tax, which is half of the total amount, from their gross income.
Medicare taxes pay for the health care of older people (over 65) and young people with disabilities.
The Medicare trust fund finances health services for Medicare beneficiaries. The trust’s funds are generated by:
General tax revenue
Premiums paid by enrollees
A payroll tax is a percentage withheld from an employee's salary and paid to the government to fund public programs.
These tax funds are used to help people with Medicare pay for things like hospital stays and medical care. Any extra tax money is put into the Medicare trust fund.
Tax funds can help not only the current Medicare beneficiary, but also other beneficiaries who are part of the Medicare system.
Understanding Medicare coverage is already stressful and confusing, even before you start thinking about the taxes that fund it.
If you’re interested in learning more about Medicare taxes head to PolicyScout’s Medicare hub. We have loads of articles to help you understand costs, enrollment options, different plans, and coverage.
If you’re currently unsure about your Medicare taxes or a self-employed worker curious about your self-employed tax, get in touch with one of our professional consultants for tailored advice by emailing us at Help@PolicyScout.com or calling us at 1-888-912-2132 to get personalized assistance with finding a plan.