How is Medicare funded?

Medicare funding comes from two trust funds, which are funded by tax revenue and premiums paid by Medicare beneficiaries

Derek Silva

Derek Silva

Published October 8, 2019

KEY TAKEAWAYS

  • The Centers for Medicare & Medicaid Services (CMS) runs Medicare and handles its budget

  • Medicare is funded by federal tax revenue, payroll tax revenue (the Medicare tax), and premiums paid by Medicare beneficiaries

  • The trust fund that pays for Medicare Part A is projected to run out of money in 2026 unless more tax revenue is raised

Medicare is a federally run health insurance program that serves seniors and people living with certain disabilities. There are four parts of Medicare, each of which covers different types of health care expenses. The source of funding for each part of Medicare is different.

Technically, Medicare funding comes from the Medicare Trust Funds. Those are two separate funds — the Hospital Insurance (HI) Trust Fund and the Supplementary Medical Insurance (SMI) Trust Fund — which each pay for different parts of the Medicare program. Money in those two funds can only go toward paying for Medicare.

Money in the Medicare Trust Funds comes from tax revenue and the insurance premiums that Medicare beneficiaries pay. All workers pay at least 1.45% of their incomes in Medicare taxes. In 2019, Medicare Part B recipients pay monthly premiums of between $135.50 and $460.50. Most people qualify for premium-free Part A, but those who don’t will have premiums worth up to $437.

That means Medicare is primarily funded by taxpayers through general federal tax revenue, payroll tax revenue from the Medicare tax, and premiums paid by its beneficiaries.

In this article:

How Medicare is funded

Funding for Medicare comes from the Medicare Trust Funds, which are two separate trust fund accounts held by the U.S. Treasury:

  • The Hospital Insurance (HI) Trust Fund pays for Medicare Part A benefits, which include hospital, nursing home, skilled nursing facility, hospice, and home health care.
  • The Supplementary Medical Insurance (SMI) Trust Fund pays for Medicare Part B benefits — which include doctors’ visits for outpatients, mental health, ambulances, and preventative care — and Medicare Part D prescription drug coverage.

The money in the Medicare Trust Funds comes from a variety of sources:

  • The Medicare tax, a payroll tax paid by employers and employees
  • General federal tax revenue, as appropriated by Congress
  • Income taxes paid on Social Security benefits
  • Premiums paid by Medicare beneficiaries
  • Interest earned on the trust fund investments

Learn more about total costs beneficiaries pay for Medicare.

How is Medicare Part A funded?

Medicare Part A (hospital insurance) is paid through the HI Trust Fund. The fund primarily comprises revenue from the Medicare tax. It is also maintained through taxes on Social Security benefits, premiums paid by Medicare Part A beneficiaries who are not yet eligible for other federal retirement benefits, and interest on the trust fund’s investments.

How is Medicare Part B funded?

Medicare Part B (outpatient insurance) is paid through the SMI Trust Fund. The fund gets money from the premiums paid by Medicare Part B and Part D beneficiaries, federal and state tax revenue, and interest on its investments.

How is Medicare Part C funded?

Medicare Part C, also known as Medicare Advantage, is a private alternative to the traditional Medicare. Part C is funded separately from the rest of Medicare by the premiums that enrollees pay for Medicare Advantage health care plans.

Learn more about Medicare Part C.

How is Medicare Part D funded?

Medicare Part D prescription drug coverage is funded through the SMI Trust Fund and the premiums that current Part D beneficiaries pay.

Learn more about Medicare Part D.

What is the Medicare tax?

Your employer withholds a certain amount of every paycheck for taxes. Some of these payroll taxes go toward paying your personal income taxes and some go toward FICA taxes. The Federal Insurance Contributions Act (FICA) requires all U.S. employers and employees to pay income taxes to help fund the federal insurance programs of Social Security and Medicare.

There are two FICA taxes:

  • The Hospital Insurance (HI) tax funds Medicare Part A, so it’s commonly known as the Medicare tax. The Medicare tax is 1.45% of employee wages (2.35% for high earners).
  • The Old Age, Survivors and Disability Insurance (OASDI) tax funds the Social Security program. It’s commonly referred to as the Social Security tax and it’s 6.2% of an employee’s wages. (These funds do not pay for Medicare.)

The Additional Medicare Tax

If you have a high income, you may have to pay a surtax (an extra tax) called the Additional Medicare Tax. The surtax is 0.9% of your income and when you start paying it depends on your income and filing status. The table below has the thresholds for the Additional Medicare Tax in 2019.

Filing status2019 Threshold for Additional Medicare Tax
Married filing jointly$250,000
Married filing separate$125,000
Single$200,000
Head of household (with qualifying person)$200,000
Qualifying widow(er) with dependent child$200,000

What if you’re self-employed?

Employers are required to withhold FICA taxes from employee paychecks. Self-employed individuals paying the self-employment (SE) tax instead of FICA taxes. The SE tax is the same 15.3% as FICA taxes (12.4% for Social Security tax and 2.9% for Medicare tax). Self-employed individuals have to pay the entire tax since they don’t have an employer to pay half, but they can deduct the “employer” half of the taxes on their tax returns.

If you’re self-employed, you’ll need to pay estimated taxes to cover the self-employment tax. Learn more about how to make estimated tax payments.

The future of Medicare funding

As of July 2019, Medicare covers about 61 million people, but the number of beneficiaries is outpacing the number of people who pay into the program. This has created a funding gap. Stagnant wages in recent years have exacerbated the problem because the revenue from payroll taxes isn’t enough keep up with the cost of running Medicare.

Total Medicare spending in 2019 is estimated to reach $796.6 billion, while total Medicare income is estimated to be $793.5 billion. Based on current projections from the HI Trust Fund’s board of trustees, the HI Trust Fund (what pays for Medicare Part A) will run out of funds in 2026.

That doesn’t mean Medicare will go away, though. The shortage applies only to the HI Trust Fund. The SMI Trust Fund, which pays for Medicare Part B and Part D, remains solvent, since the majority of beneficiaries pay premiums to participate. (Medicare Part A is premium-free for most enrollees.)

Congress may act in the future to address the funding shortfall. For instance, they could raise the Medicare tax or the age when Americans are eligible for benefits. For now, it’s unclear what will happen with Medicare Part A funding.

(Social Security faces a similar funding gap. Read more on when Social Security will run out.)

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