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Will my Social Security Benefits be Taxed? - Pinnacle Investment Management, Inc.

Will my Social Security Benefits be Taxed?

June 8, 2017 / Blog

Like most things with Social Security, this answer isn’t always straightforward. Your Social Security benefit may not be taxed at all or, up to 85% of it may be taxed.

The determination of it being taxable or not depends upon what other sources of income you have. If the only income you have is Social Security then your benefit will not be taxed.

If you have other income then you need to do some calculations. I would recommend you use a calculator (such as this one) to do this for you, however I also believe it is worth understanding the basics of how it is determined, which is what I explore below.

The first step in figuring out if your Social Security benefit is taxable is calculating your “combined income.” Combined income is defined as adjusted gross income + nontaxable interest + ½ of your Social Security benefits.

Pretty much all income you can think of (wages, IRA distributions, pensions, dividends, capital gains) is considered as part of your AGI. One income item that wouldn’t be included are withdrawals from a Roth IRA or Roth 401(k).

 

EXAMPLE

Teresa is 66 and collecting a Social Security benefit of $15,000/year. Her other income includes a pension of $10,000 and municipal bond interest (tax free interest) of $3,000. Teresa’s combined income is

               $10,000 (pension)
               $3,000 (tax free interest)
               $7,500 (1/2 of Social Security benefit)
               $20,500 (combined income)

Once you have figured your combined income, you can then determine how much of your benefit is taxable. There are two thresholds (based on your filing status) that determine the amount:

To help understand the chart, for a single filer:

  • If your combined income is below $25,000 then none of your Social Security benefits are taxable
  • If your combined income is between $25,000 and $34,000, then up to 50% of your benefit may be taxable
  • If your combined income is more than $34,000 then up to 85% of your benefits may be taxable.

The same reasoning goes for married couples, however the thresholds are higher.

So, from the example above, Teresa’s Social Security benefits would not be taxable since her combined income is below $25,000.

It is also important to know that its only the portion of your combined income above these thresholds that is taxed.  For instance, if you have combined income of $26,000, that doesn’t mean that all of your Social Security benefits are now taxable. Rather, $500 of your benefit ($1,000 above the $25,000 level x 50%) would be taxable.

Another example to help clarify:

Jake has income from his IRA of $20,000 and Social Security benefits of $15,000. His combined income is $27,500,000 ($20,000 + $7,500), which means he has $2,500 of income over the first threshold $27,500-$25,000). Half of this amount, so $1,250, of his Social Security benefit is subject to tax. The rest of his benefit will be non—taxable.

As your income rises, the amount of your Social Security subject to tax rises. The highest amount of Social Security that can be subject to tax is 85%.

An important note: this does not mean that 50% or 85% of your Social Security benefit will disappear. It just means that 50% or 85% of your Social Security benefit will be taxable. The rate that your benefit will be taxed at depends on your tax situation. Some states, Connecticut being one, also tax (or partially tax) Social Security.

 

Planning Points

• This is a yearly calculation, so the amount of your Social Security subject to tax can change as your income changes in retirement.

• The income thresholds that are listed above are not adjusted for inflation. So as your income rises, you may quickly surpass these thresholds.

• There is only so much that can be done to plan around this Social Security tax. However, having money in Roth accounts or taxable accounts can help by giving you the ability to manage your income streams throughout retirement. It can be worth exploring tax planning opportunities such as Roth conversions as your prepare for retirement.

If you are interested in learning more about Social Security, download a free copy of our eBook “Social Security: How to Make it Work For You” which you can find on the top right of this page.

 

Sources & Further Reading
SocialSecurity.gov: Income Taxes and Your Social Security Benefits


About the author

John Shanley: CFP ® is a Financial Advisor with Pinnacle. He joined in 2015 after previously working as a Financial Consultant for Fidelity Investments. John is a Certified Financial Planner, a graduate of Fordham University and is currently pursuing his Masters degree in Financial Services. John is a native of Pawling NY and currently resides in Suffield with his wife, Jennifer, who is an Immigration Attorney. In his free time, John enjoys reading and is an avid hockey fan.


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