Continuing our FEHB series, looking at premiums and the effect on taxes, social security, and other benefits.
OPM’s FEHB Handbook is a dense digital document that details all the technicalities around health insurance for active and retired federal workers and their family members. In this series, we’re attempting to summarize the government’s guide in more digestible chunks. In the first article, we provided a general overview of the handbook and its introduction. The second article looked at the legal responsibilities of the parties involved. Now, let’s explore FEHB premiums and the tax implications of premium conversion.
Who Pays for FEHB Coverage?
Federal employees and retirees who participate in the FEHB program share the cost with the Federal Government. For full-time federal workers, they typically pay 25% of the premium due. Technically, the government pays what is known as their “fair share,” which is usually 75% of an employee’s premium. However, if 72% of the weighted average of all premiums from all plans of a specific plan type (self, self plus one, or family) across the entire FEHB program is less than 75% of a given employee’s premium, then the Government pays that lesser amount. With part-time workers, the government pays a percentage that is proportional to the amount that would’ve been paid had the same worker served on a full-time basis, but based off the actual number of hours worked.
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There are some FEHB enrollees who have to pay 100% of their premium with no help from the government. These same individuals usually have to pay with post-tax dollars because they can’t participate in a premium conversion, which we’ll get to shortly. These folks include former spouses who retain health benefits through spouse equity provisions, temporary employees, and people who are eligible for FEHB through a TCC (temporary continuance of coverage).
Are FEHB Premiums Paid Pre-Tax?
Generally speaking, an actively employed fed has their portion of FEHB premiums withheld from their paycheck as retired feds have their premiums withheld from their FERS or CSRS pension. However, retired feds who retain FEHB coverage have their premiums deducted after taxes are taken, similar to the individuals mentioned above. While actively serving, federal employees can participate in ‘Premium Conversion,’ which allows the premiums to be taken pre-tax. This both boosts net money received each paycheck and reduces one’s adjusted gross income. Eligible individuals include those directly employed or paid by the executive branch, or any federal employee who can fully participate in the FEHB program. Premium conversion can be opted into or out of either during the annual FEHB open season or within 60 days of experiencing a “qualified life event.”
Why Would You opt Out of Premium Conversion?
For most federal workers, premium conversion is a smart move. Only individuals who do not have to pay any federal income tax should seriously consider opting out, and only after having a thorough discussion with a tax specialist about the implications.
Premium conversion also has no impact on other federal benefits like the TSP, FERS/CSRS, or FEGLI because income figures that impact these benefits use the gross amount for income, which is determined before FEHB premiums are handled. The one thing that can be impacted is future Social Security retirement benefits, which might be slightly reduced due to converting premiums. The amount of the reduction depends on a few factors, one of which is whether you contribute to FERS or CSRS.
If you’re a pure CSRS employee, premium conversion is almost always the best bet. Same goes with CSRS-offset because any increase in Social Security from opting out would be outweighed by a comparable reduction of your CSRS pension. For FERS employees, any future reduction in Social Security benefits due to premium conversion would be compensated by the tax savings. Calculating the tax benefit is where the other two factors come into play: the number of years until retirement and whether or not your salary is greater than the applicable Social Security wage base. You can determine if the tax benefit is worth it with the following formula:
- Take the number of years you’ll have premium conversion until retirement and divide that by 35.
- Multiply the result by your current FEHB premium
- Multiply that product by the marginal social security rate (15% for the majority of feds)
- This gives you the annual loss to social security when opting in to premium conversion
- Compare the above reduction amount to roughly $67 per month increase in net pay that you’ll receive with premium conversion
The next article in this FEHB series will continue to go over the expenses associated with health insurance provided through the FEHB program. In the meantime, don’t forget to register for our next FEHB Webinar!
Until Next Time,
**Written by Benjamin Derge, Financial Planner, ChFEBC℠ The information has been obtained from sources considered reliable but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Benjamin Derge and not necessarily those of RJFS or Raymond James. Links are being provided for information purposes only. Expressions of opinion are as of this date and are subject to change without notice. Raymond James is not affiliated with and does not endorse, authorize, or sponsor any of the listed websites or their respective sponsors.