How to Qualify for Affordable Care Act (“Obamacare”) Cost-Sharing Reductions

In addition to subsidies for health insurance premiums that we discussed last week, the Affordable Care Act also provides for subsidies (for qualifying people) that actually improve the health insurance itself — by reducing deductibles, out of pocket maximums, and copays, for instance. These subsidies are collectively referred to as “cost-sharing reductions” because their net result is that they reduce the share of your healthcare costs for which you will be responsible.

To qualify:

1. You must be purchasing a “silver” level plan via one of the new health insurance exchanges,
2. You must not be eligible for “affordable minimum essential coverage” through any other source (e.g., your employer, Medicare, Medicaid, etc.), and
3. Your “household income” must be below a certain level (discussed below).

Of note: “Household income” is defined the same way for this purpose as it is for the purpose of calculating the premium subsidy credit.

Reduction in Out-of-Pocket Maximum

The first type of cost-sharing reduction is a decrease in the out-of-pocket maximum on your health insurance plan. If your household income is:

• Between 300% and 400% of the federal poverty level, the out-of-pocket maximum on your plan will be reduced by one third (relative to the “silver” plan for somebody whose household income is above 400% of the FPL),
• Between 200% and 300% of the federal poverty level, the out-of-pocket maximum on your plan will be reduced by one half, and
• Between 100% and 200% of the federal poverty level, the out-of-pocket maximum on your plan will be reduced by two thirds.

Other Cost-Sharing Reductions

The other type of cost-sharing reduction requires a bit more explanation. Under this subsidy, if your household income is below a certain level, the “actuarial value” of your silver plan must be increased to a certain level.

The “actuarial value” of your plan is the percentage of expected healthcare costs that the health insurance company expects to have to cover. For example, for people with a household income above 400% of the federal poverty level (i.e., people who do not qualify for a subsidy), the actuarial value of silver health insurance plans is 70%, meaning that the health insurance company expects that, via deductibles, copays, and coinsurance, customers of this silver plan will pay, on average, 30% of their own healthcare costs, leaving the insurance company responsible for 70% of the expected costs.

According to section 1402(c)(2) of the PPACA, however, if your household income is:

• Between 200% and 250% of the federal poverty level, the actuarial value of your silver plan will be increased (from 70%) to 73%,
• Between 150% and 200% of the federal poverty level, the actuarial value of your silver plan will be increased to 87%, and
• Between 100% and 150% of the federal poverty level, the actuarial value of your silver plan will be increased to 94%.

One complicating factor about this cost-sharing reduction is that the insurance companies have the choice to implement it however they want. For example, to increase the actuarial value of silver plans (to 87%) for people with household incomes between 150% and 200% of FPL, the insurance company could use any combination of lower copays, lower deductibles, lower coinsurance percentages, and lower out-of-pocket maximums that makes the math work.

Tax Planning Considerations

From a tax planning perspective, the big takeaway of the above is that, for those purchasing insurance on the exchanges, not only can you achieve significant savings by getting your household income below 400% of the federal poverty level (e.g., by making deductible contributions to HSAs or retirement accounts or by living off Roth savings in early retirement), you can achieve additional savings if you can get your household income below 300%, 250%, 200%, or 150% of the federal poverty level.

Technical note: Interestingly, as far as I can tell, there is a timing difference between this subsidy and the premium subsidy credit. For the premium subsidy credit, it is your income within a given year that determines whether you qualify for the credit that year. Per PPACA sections 1402(f)(3) and 1412(b)(1), however, for the cost sharing reduction subsidy, it is (usually) your income “for the most recent taxable year for which the Secretary, after consultation with the Secretary of the Treasury, determines information is available” during the enrollment period that determines your eligibility. In other words, for people enrolling right now (or at the end of last year) for 2014, it sounds like it is (in most cases) their 2012 income that would determine eligibility.