Deciding when to take Social Security benefits? It is important to take your tax situation into consideration. Careful planning could significantly reduce your tax burden.
How Are Social Security Benefits Taxed?
How much of your Social Security benefits are taxable is determined by your “provisional income,” which is the sum of half of your Social Security income for the year and your modified adjusted gross income (which includes some tax-exempt income, such as that paid by municipal bonds).
The Social Security tax income thresholds are listed below. Once you cross the income threshold based on your federal tax filing status, the appropriate portion of your Social Security benefits become treated as taxable income.
|Filing Status||50% Taxable Threshold||85% Taxable Threshold|
|Single/Head of Household/Qualifying Widow(er)||$25,000||$34,000|
|Married Filing Jointly||$32,000||$44,000|
What Are Your Other Income Sources?
Whether income from a retirement account is considered provisional income depends on the type of retirement account. For example, withdrawals from a traditional IRA are, in most cases, considered provisional income, while withdrawals from a Roth IRA are generally not.
For accounts subject to Required Minimum Distribution (RMD) rules, the expected amount of the RMD should be taken into consideration when planning for the year you turn 70 ½ and beyond.
Will You Continue Working?
If you plan to continue working – even part-time – and you elect to take your benefits before reaching full retirement age (age 66 for most Baby Boomers), you’ll also want to keep the Retirement Earnings Test in mind.
For 2019, the Social Security Administration (SSA) limits your earnings to $17,640 per year if you are below full retirement age and are receiving benefits. For every $2 earned over this amount, the SSA will withhold $1 from your benefits.
If you start receiving benefits when you reach full retirement age, that earnings cap jumps to $46,920, and the SSA will shave off $1 off for every $3 earned over that limit.
How Do I Know if My Benefits are Taxable?
Each year, you will receive a Social Security Benefit Statement (IRS Form SSA-1099) that contains the amount you received in the previous tax year. The Form SSA-1099 can be used when completing your federal income tax return to see whether you owe taxes on your benefits. If you do, you may elect to either have the taxes withheld from your payouts or you may make quarterly estimated tax payments to the IRS.
So How Can You Reduce Your Provisional Income?
Here are a few options:
- Don’t claim your benefit until after you’ve retired. Keeping your provisional income low may help minimize the amount of taxes you’ll pay on Social Security benefits.
- Donate the required minimum distribution (RMD) from your traditional IRA to charity if you’re over age 70 ½. Doing this satisfies the annual minimum distribution requirement, but the RMD amount will not be included in your provisional income for the year.
- Diversify your retirement savings across the three buckets that we talked about here. This can give you more control over managing your tax bill in retirement.
Additionally, don’t forget to consider state income taxes during planning. Do you live in a retiree-friendly state? There are 13 states that tax Social Security benefits.
An experienced financial advisor can help you formulate a strategy to minimize the taxes you may have to pay on your Social Security benefits. Reach out today for cost-free, no-obligation guidance from one of our advisor network members.