Do IRA Withdrawals Count as Income for Obamacare?

Understanding how IRA withdrawals impact eligibility for Obamacare subsidies is crucial for managing healthcare costs. The income reported determines whether someone qualifies for premium tax credits, which can significantly lower health insurance costs through the Marketplace.

IRA withdrawals can either increase or leave reported income unchanged, depending on the type of account and how distributions are handled. This distinction affects subsidy eligibility and potential tax liabilities.

How Modified Adjusted Gross Income Is Calculated

Financial assistance through the Health Insurance Marketplace is based on Modified Adjusted Gross Income (MAGI), which determines eligibility for premium tax credits and Medicaid. MAGI starts with Adjusted Gross Income (AGI) and adds back certain deductions that would otherwise lower taxable income.

AGI includes wages, self-employment earnings, rental income, dividends, and taxable Social Security benefits, minus deductions such as student loan interest, alimony payments (for divorces finalized before 2019), and contributions to certain retirement accounts. To calculate MAGI for health insurance subsidies, non-taxable Social Security benefits, tax-exempt interest (such as municipal bond income), and excluded foreign income under the Foreign Earned Income Exclusion are added back.

For example, if someone has an AGI of $40,000, receives $5,000 in tax-exempt municipal bond interest, and $10,000 in untaxed Social Security benefits, their MAGI would be $55,000. This figure is compared to the federal poverty level (FPL) to determine subsidy eligibility. In 2024, premium tax credits are available for those earning between 100% and 400% of the FPL, though temporary expansions under the American Rescue Plan and Inflation Reduction Act removed the upper income cap through 2025.

Traditional IRA Withdrawals

Distributions from a Traditional IRA are taxable in the year they are taken, increasing AGI and, by extension, MAGI. This can reduce or eliminate premium tax credit eligibility, making healthcare more expensive.

For retirees or those relying on IRA funds for living expenses, the timing and amount of withdrawals determine whether they qualify for financial assistance. If someone withdraws $20,000 from a Traditional IRA in addition to other income, that full amount is added to their AGI. If this pushes their MAGI above the subsidy threshold, they may have to pay the full cost of health insurance.

Required Minimum Distributions (RMDs) also impact income calculations. Starting at age 73 in 2024, account holders must withdraw a minimum amount annually based on IRS life expectancy tables. These mandatory withdrawals increase MAGI, potentially disqualifying individuals from subsidies. Unlike Roth IRAs, Traditional IRAs do not offer tax-free withdrawals, making strategic planning necessary to avoid unexpected increases in healthcare costs.

Roth IRA Withdrawals

Roth IRA withdrawals can be tax-free, depending on when and how funds are accessed. Contributions are made with after-tax dollars, so the original investment can be withdrawn at any time without tax consequences.

Earnings within a Roth IRA must meet specific conditions to be withdrawn tax-free. The account holder must be at least 59½ years old and have held the Roth IRA for at least five years. If these conditions are met, both contributions and earnings can be withdrawn without increasing taxable income. If an individual withdraws earnings before meeting these requirements, the earnings portion may be subject to ordinary income tax and, in some cases, a 10% early withdrawal penalty.

Certain exceptions allow early withdrawals of earnings without penalties, such as using up to $10,000 for a first-time home purchase or covering qualified education expenses. Additionally, Roth IRAs do not have Required Minimum Distributions (RMDs), allowing account holders to leave funds untouched indefinitely. This flexibility makes Roth IRAs useful for managing taxable income in retirement.

Premium Tax Credits

Eligibility for premium tax credits is based on income relative to federal poverty guidelines. The tax credit is calculated on a sliding scale that considers household income and the cost of the benchmark Silver plan in a given region. The Affordable Care Act (ACA) ensures that individuals and families pay only a certain percentage of their income toward health insurance premiums, with the government covering the rest through the credit. This percentage ranges from 0% for those at the lowest qualifying income levels to 8.5% of MAGI for those at the upper end under current subsidy expansions.

These credits are advanceable, reducing monthly premium costs in real time rather than requiring individuals to wait until they file their tax return. However, if actual income at year-end is higher than estimated when applying for coverage, excess credits may need to be repaid, subject to repayment caps based on income brackets. Underestimating earnings can lead to unexpected tax liabilities, making accurate income projections essential.

Reporting Requirements

Since IRA withdrawals affect health insurance subsidy eligibility, accurately reporting them on a tax return is necessary to avoid repayment obligations or unexpected tax liabilities. The IRS requires all taxable distributions to be reported as income, while non-taxable withdrawals, such as qualified Roth IRA distributions, may still need to be disclosed in certain cases.

Traditional IRA withdrawals are reported on Form 1099-R, which financial institutions issue to account holders and the IRS. The taxable portion appears in Box 2a, and if the withdrawal is subject to early distribution penalties, this is indicated in Box 7. When filing a tax return, the amount is entered on Form 1040 under IRA distributions, with taxable and non-taxable portions separated. Roth IRA withdrawals also appear on Form 1099-R, but if they meet the criteria for tax-free treatment, they do not increase taxable income.

For those receiving advance premium tax credits, Form 8962 must be filed to reconcile the subsidy amount with actual income. If income exceeds the original estimate, some or all of the credit may need to be repaid, depending on the final MAGI. To avoid repayment surprises, individuals can update their Marketplace income estimates throughout the year if their financial situation changes due to IRA withdrawals or other income sources.