Does the title of this post have you confused? Well bear with me as I explain….
XPAY
XPAY is a new ETF that does nothing more than give you your money back. If you invest $10,000 in XPAY, at the end of five years you’ll have gotten all your money back because it will give you $2000/year for five years. Here is a quote from the XPAY link:
The Roundhill S&P 500® Target 20 Managed Distribution ETF (“XPAY”) is designed to pay monthly return of capital distributions to shareholders at an annualized rate of twenty percent, while providing exposure to the S&P 500®. XPAY is an actively-managed ETF.
IRMAA
IRMAA is short for Income Related Monthly Adjusted Amount which is a nice way of saying “tax the rich” for medicare. Once you reach age 65 and sign up for medicare you will need to pay monthly premiums. How much you pay in premiums is dependent on how much money you earn (key point).
Medicare Premiums
Below is a table for Medicare Premiums for 2024 that I wrote about in a previous post.
| Part B IRMAA premiums (2024) | ||
|---|---|---|
| Individual | Joint | Monthly Premium |
| $103,000 or less | $206,000 or less | $174.70 (no IRMAA) |
| > $103,000 – $129,000 | > $206,000 – $258,000 | $244.60 |
| > $129,000 – $161,000 | > $258,000 -$322,000 | $349.40 |
| > $161,000 – $193,000 | > $322,000 – $386,000 | $454.20 |
| > $193,000 – $500,000 | > $386,000 – $750,000 | $559.00 |
| Greater than $500,000 | Greater than $750,000 | $594.00 |
source: CMS & MedicareResources.org
As you can see from the table above, if you “earn” $206,000 or less as a joint married couple, your medicare premium is $174.70. The premiums go up from there all the way up to $594. These rates are for 2024 and will likely go up in 2025 and beyond.
So if you are “earning” $350,000 per year how can you lower your income and get it below $206,000 to reduce your premiums from $454 down to $174?
AI – Ultimate Tax Optimizer 😉
I posed a question on how I can use XPAY to lower my IRMAA and here is the answer from AI:
Using an ETF like XPAY (which is designed to provide regular capital returns or distributions) to reduce your IRMAA (Income-Related Monthly Adjustment Amount) for Medicare premiums is possible but requires careful planning around how distributions are structured and reported.
Here’s how it can work and some strategies to consider:
1. Understand How IRMAA is Calculated
IRMAA is based on your Modified Adjusted Gross Income (MAGI), as reported on your tax return from two years prior. For example, your 2023 IRMAA is based on your 2021 MAGI. To reduce IRMAA, you want to keep your MAGI below certain thresholds.
2. Capital Gains vs. Income Distributions
IRMAA calculations include capital gains and ordinary income. However, if your ETF generates capital returns (also called “return of capital”) rather than traditional income distributions (such as dividends or interest), those capital returns are generally not immediately taxable. They reduce your cost basis instead, meaning taxes are deferred until you sell the asset. This can help you keep your MAGI lower in the current tax year.
In the case of XPAY or similar ETFs:
- Return of Capital: If the ETF distributes return of capital, it’s not considered taxable income in the year received. Instead, it reduces your cost basis, potentially deferring the tax impact until the ETF is sold.
- Dividends or Capital Gains Distributions: These are taxable in the year received and will count toward your MAGI.
3. Using Return of Capital to Lower MAGI
If XPAY or a similar ETF primarily distributes return of capital, those distributions won’t immediately increase your MAGI, thus not impacting your IRMAA. Here’s how you can leverage this:
- Hold XPAY in Taxable Accounts: In a taxable account, return of capital distributions don’t increase MAGI in the year they’re received.
- Defer Realization of Gains: Since capital gains aren’t realized until you sell the ETF, holding XPAY without selling means capital appreciation won’t affect MAGI. This is different from ETFs that distribute ordinary dividends or interest, which increase MAGI every year they’re paid.
4. Manage Withdrawals and Gains Strategically
When you eventually decide to sell XPAY or another similar ETF:
- Time Your Withdrawals Carefully: Consider selling in years where your MAGI is expected to be low. For example, if you anticipate lower income in retirement, you might time sales in years where the capital gain impact on MAGI is minimized.
- Harvest Tax Losses: If you have other investments that have depreciated, consider tax-loss harvesting to offset gains realized from XPAY when you sell.
5. Monitor Distributions and ETF Structure
Check the fund’s annual distributions and their tax character:
- Return of Capital Consistency: Ensure that a significant portion of distributions continues to be classified as return of capital. ETFs can sometimes change their distribution policy, impacting tax reporting.
- Consult the ETF’s Annual Statement: Review the fund’s annual tax documents to confirm the distribution breakdown, as tax treatment can change year to year.
6. Consult a Financial Planner
Reducing IRMAA through ETF strategies involves several moving parts, including the timing of distributions, ETF tax treatment, and your personal tax situation. A financial planner or tax professional can help you optimize the strategy to meet your IRMAA reduction goals while ensuring tax efficiency.
By prioritizing return of capital over income and strategically managing sales, you can potentially keep your MAGI below IRMAA thresholds, thus reducing your Medicare premiums.
Academic Planning Exercise
I am nowhere near 65 and the tax laws and ETFs will probably change many times but what I am doing with this exercise is learning how to use AI to serve as my tax accountant and financial planner and double checking its work. I suspect in a few years, it will be able to do all of this by itself but it’s a fun learning experience. I will also use this post as a guide in the distant future to remind myself of a possible strategy for IRMAA.
If you are 65 and want to use this strategy, I suggest you run it by a CPA or tax expert and not rely on anything you’ve read here as tax gospel.
Share The Wealth
Isn’t AI amazing? Let me know in the comments below!