• Many younger retirees rely on Marketplace health insurance before age 65, which has lower monthly premiums thanks to boosted tax breaks through 2025.
• But retirees can face a "phantom tax" without proper planning, according to Tommy Lucas, a certified financial planner and enrolled agent at Moisand Fitzgerald Tamayo.
• Boosting income via earlier Social Security payments or Roth individual retirement account conversions could phase out Marketplace tax credits.

Since most Americans aren't eligible for Medicare before age 65, many younger retirees rely on Marketplace health insurance, which offers lower monthly premiums through the end of 2025 thanks to boosted tax breaks. But retirees can face a costly tax surprise without proper planning, experts say.

As of open enrollment 2024, more than 5.1 million Americans aged 55 to 64 had Marketplace coverage, up from roughly 3.4 million in 2021, according to data from the Kaiser Family Foundation.

In 2021, Congress temporarily enhanced the premium tax credit, which allows Marketplace enrollees to lower monthly premiums upfront or claim the tax break when filing their return. The legislation covered 2021 and 2022, but lawmakers extended that benefit through 2025.  

With Marketplace benefits tied to earnings, younger retirees can leverage lower premiums after leaving the workforce. But some are subject to a "phantom tax" when income rises, according to Tommy Lucas, a certified financial planner and enrolled agent at Moisand Fitzgerald Tamayo in Orlando, Florida.

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"These are very valuable credits," and several financial moves in retirement could impact them, Lucas warned. "You have to be extremely careful."

How the premium tax credit works

Before 2021, households with income between 100% and 400% of the federal poverty level were eligible for the premium tax credit. But the American Rescue Plan Act temporarily removed those limits and capped premiums at 8.5% of income amid the pandemic.

Calculating premium tax credit eligibility can be complicated. It's based on the difference between a benchmark premium — the cost of the second-lowest-cost silver plan available in an area — and a maximum contribution based on a percentage of income. 

Plus, "changes in reporting circumstances should be reported immediately," to make necessary adjustments, said CFP Jim Guarino, managing director at Baker Newman Noyes in Woburn, Massachusetts.

Otherwise, you could overpay or underpay your Marketplace premiums, which are ultimately reconciled on your tax return, he added.   

Common premium tax credit issues

Depending on income, the premium tax credit can save eligible younger retirees hundreds or even thousands per year. But higher income can phase out eligibility, experts say.  

"The big one," in terms of affecting eligibility, is claiming Social Security at age 62 because your entire payment, including the nontaxable portion, counts toward the eligibility calculation for the premium tax credit, Lucas said.  

If you're claiming the premium tax credit, long-term projections show it's generally better to wait until at least age 65 to claim Social Security, he said.

The same issue can occur when boosting income via so-called Roth individual retirement account conversions, which transfer pretax or nondeductible IRA funds to a Roth IRA for future tax-free growth.

But with several years until required minimum distributions, you could still implement the strategy later, Lucas said.  

"The name of the game, ultimately, is paying minimum taxes, not just in one year or two years, but over your projected lifespan," he added.