A question came to light regarding a loophole in the ACA penalty rule that would allow those with neither insurance nor an exemption to get out of paying the penalty for not having insurance.
Here is the question:
If I owe both income tax and the ACA penalty but don’t want to pay the penalty, will the IRS make me pay both? The idea is that the IRS can only collect the penalty if a person is owed a refund, but can’t collect if a person owes the IRS more money come tax time. So people should claim as many deductions as possible and when they file their taxes they’ll owe money instead of receiving a refund and they won’t have to pay the penalty.
Here is the real situation:
If you owe income tax as well as the penalty and pay only your income tax amount, the IRS is going to apply the money you send them to your income tax. They will not apply any of that money to the penalty. This is because the IRS applies payments to your oldest debt first, and income tax is considered the older of the two debts.
But the next year, guess what? That outstanding ACA penalty from the prior year will be considered your oldest tax debt. “But wait!” some people say, “There’s another loophole! To be sure your payment is applied according to your wishes, you can simply tell the IRS that you want your payment to be applied to the current year’s income tax! You still don’t have to pay the penalty!” Yep. That is correct. However, the penalty stays with you and the IRS will withhold it from a future refund any time in the next ten years. It will accrue interest that entire time.