MINIMIZING TAX ON SOCIAL SECURITY BENEFITS

Article Highlights:

Income as a Factor
Filing Status as a Factor
Benefits Taxable up to 85%
Base Amounts
Deferring Income
Maximizing IRA Distributions

How much (if any) of your Social Security benefits are taxable depends on a number of issues. The following facts will help you understand the taxability of your Social Security benefits.

For this discussion, the term “Social Security benefits” refers to the gross amount of benefits you receive (i.e., the amount before any reductions due to payments withheld for Medicare premiums). For tax purposes, Social Security benefits are treated the same regardless of whether the benefits are paid due to disability, retirement, or reaching the eligibility age. Supplemental Security Income benefits are not included in these computations because they are not taxable under any circumstance.
The taxability of your Social Security benefits depends on your total income and marital status.
o If Social Security is your only source of income, it is generally not taxable.

o On the other hand, if you have other significant income, as much as 85% of your Social Security benefits can be taxable.

o If you are married and filing separately, and if you lived with your spouse at any time during the year, 85% of your Social Security benefits are taxable—regardless of your income. This is to prevent married taxpayers who live together from filing separately to reduce the income on each return and thus reduce the amount of Social Security income that is subject to tax.
The following quick computation can be done to determine if some of your benefits are taxable:
Step 1. First, add half of your total Social Security benefits to your total other income, including any tax-exempt interest and certain other exclusions* from income.

Step 2. Then, compare this total to the base amount that is used for your filing status. If the total is more than the base amount, some of your benefits may be taxable.

The base amounts are:

$32,000 for married couples filing jointly;
$25,000 for single persons, heads of household, qualifying widows/widowers with dependent children, and married individuals filing separately who did not live with their spouses at any time during the year; and
$0 for married persons filing separately who lived together during the year.

*These exclusions are as follows: the interest from qualified U.S. savings bonds (used for education expenses), employer-provided adoption benefits, foreign earned income or foreign housing income, and income earned by bona fide residents of American Samoa or Puerto Rico.

When taxpayers can defer their non-Social Security income from one year to another, such as by taking individual retirement account (IRA) distributions, they may be able to plan their income so as to eliminate or minimize the tax on their Social Security benefits in a given year. However, the required-minimum-distribution rules for IRAs and other retirement plans have to be taken into account.

Individuals who have substantial IRAs and who either aren’t required to make withdrawals or are making their post-age-70.5 required minimum distributions (but are not withdrawing enough to reach the Social Security tax threshold) may be missing an opportunity for tax-free withdrawals. Everyone’s circumstances are different, however, and what works for one person may not work for another.

If you have questions about how these issues affect your specific situation, or if you wish to do some tax planning, please give this office a call.