Half of retirees say they paid income taxes on a portion of their Social Security benefit income for the 2019 tax year, according to a new survey by the Senior Citizens League.
That was the same percentage as in previous years despite the 2017 tax reform law, according to Mary Johnson, a Social Security and Medicare policy analyst for the Senior Citizens League.
There are 55 million Social Security beneficiaries, according to the Social Security Administration.
According to Social Security, benefits are taxed only if you have other substantial income in addition to your benefits (such as wages, self-employment, interest, dividends and other taxable income that must be reported on your tax return).
You will pay tax on only 85 percent of your Social Security benefits, based on Internal Revenue Service (IRS) rules. If you:
- file a federal tax return as an "individual" and your combined income is
- between $25,000 and $34,000, you may have to pay income tax on up to 50% of your benefits.
- more than $34,000, up to 85% of your benefits may be taxable.
- file a joint return, and you and your spouse have a combined income that is
- between $32,000 and $44,000, you may have to pay income tax on up to 50% of your benefits.
- more than $44,000, up to 85% of your benefits may be taxable.
- are married and file a separate tax return, you probably will pay taxes on your benefits.
Combined income is determined by adding one’s adjusted gross income, plus any tax-free interest income, and one half of Social Security benefits.
How to Reduce or Avoid Paying Income Taxes on Social Security Benefits
What can you do if you are subject to paying income taxes on your Social Security benefits?
One way to address this (if the taxation is due to withdrawals from IRAs, for example) is to convert more money over to Roth, says Jim Blankenship, a certified financial planner with Blankenship Financial Planning and author of A Social Security Owner's Manual.
"But this has to be done judiciously, preferably long before Social Security benefits are being received and definitely before Medicare - two years or more before, to avoid income related monthly adjustment amounts, or IRMAA, increases," he said.
While not affecting as many people as the taxation of Social Security benefits, increased income amounts also affect what people pay for Medicare Part B, said Joseph Stenken, an advanced markets product consultant with Ameritas. The standard monthly premium for Medicare Part B is $144.60 in 2020. But for those with income of over $87,000 (for individuals, $174,000 for married taxpayers filing jointly) Part B premiums will be higher. The maximum Part B premium is $491.60 for those married couples filing jointly with incomes over $750,000.
Regarding how to avoid or reduce the taxation of Social Security benefits or paying higher Part B premiums, the way to do that is to reduce income that puts the person over the different threshold amounts, said Stenken. "For many retirees that may be difficult or impossible," he said. "But for those who are not yet at retirement there may be a greater possibility for arranging finances to lower countable income."
These strategies would include, as suggested by Blankenship as well, using Roth IRAs either by contributions or engaging in Roth conversions. Distributions from Roth IRAs are not counted as income.
Other possibilities include investing in deferred annuities or cash-value life insurance. Gains from an annuity are not taxed (and therefore not counted) until money is withdrawn from it, said Stenken. "And, if done the right way, money can be taken from cash-value life insurance and never be taxed or counted," he said.
Systematic reduction of IRAs over time will reduce future required distributions, and can also help to delay Social Security benefits to a later date, said Blankenship.
"Beyond that, there's not a lot that can be done, especially for the average taxpayer who has little control over their taxable income year-over-year," said Blankenship.
Who Pays Income Taxes on Social Security Benefits?
The number of older taxpayers who find that a portion of their Social Security benefits are taxable tends to grow over time, according to the Senior Citizens League. Unlike income brackets that are adjusted for inflation, the income thresholds that subject Social Security benefits to taxation have never been adjusted since Social Security benefits became taxable in 1984, the Senior Citizens League noted in its release.
Others concur. "Because of the lack of indexing for the thresholds for Social Security taxation more and more Social Security recipients will be subject to income tax on their benefits," said Stenken.
When the law was first passed, less than 10% of all Social Security recipients had incomes high enough to be affected by the tax on benefits. But today, even retirees with modest incomes can be affected by the tax, according to the Senior Citizens League.
According to Johnson, the revenues from taxing Social Security benefits are earmarked for funding Social Security and Medicare benefits. "Those revenues take on new importance in 2020, as the coronavirus takes a significant toll on Social Security and Medicare payroll tax revenues with more than 40 million people out of work,” she said in a release.
According to the 2020 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Funds report, which does not include estimates of the impact of the coronavirus, Social Security is expected to receive about $853.3 billion in payroll tax revenues this year.
“That estimate is higher than it actually will be since it was based on just a 5% unemployment rate,” Johnson said in the release. “Currently the unemployment numbers are roughly four times higher than that."
In addition, the Coronavirus Aid, Relief and Economic Security Act (CARES Act), allows employers to defer the employer portion of payroll taxes in 2020 for up to two years, the Senior Citizens League noted.
The Social Security Trustees further estimate that $38.9 billion in revenues in 2020 would come from the taxation of Social Security benefits. “Yet those revenues are also likely to be lower, impacted by both large numbers of older Americans who lost income from jobs, as well as from lower distributions from retirement accounts that have lost value from last year,” Johnson said.
Under the CARES Act, retirees are allowed to completely waive required minimum distributions (RMDs) for 2020 from retirement accounts.
At the same time, new claims for Social Security benefits are growing, as many older workers who have lost jobs file for Social Security benefits earlier than planned, the Senior Citizens League noted. The combined impact increases pressure on Social Security to address solvency issues, the Senior Citizens League noted.
A future solvency option supported by more than 72% of the Senior Citizens League’s survey participants is to apply the Social Security payroll tax to all earnings, instead of just the first $137,700 in wages. The survey was conducted from mid-January through April of this year.