) -- If you are nearing retirement and haven't paid much thought to "line 8a," you need to -- or risk losing thousands of dollars of income for years to come.
Line 8a on your tax return is for recording taxable interest. Even shrewd and safe investments can lead to having a portion of Social Security checks kicked back over to the government based on what is claimed.
If you are not careful, you may end up losing Social Security benefits to taxes.
Earnings guidelines provide an annual limit ($25,000 for individuals; $32,000 for married couples). Exceed those limits by so much as $1 and you lose a portion of your benefit to the marginal tax rate.
"That's the trigger point, and once you've jumped that hurdle you've got to pay taxes on your Social Security based on what your marginal tax bracket is," says Jay Tyner, president of
of Greensboro, N.C.
He offers the example of a single filer with $25,000 in overall income and a CD, tucked away somewhere, that kicks in $500 in interest that leads to a tax on Social Security income. It's all too easy to let the various buckets of post-retirement wealth -- pensions, Social Security, tax-exempt income -- amass past the limits, he says.
Retirees often make the mistake of thinking "I'm not going to have any taxes to worry about, because I'm not going to work anymore," Tyner says. "Well, that's not the way it works."
"They could be sending back up to $2,000 of that $10,000 of Social Security to Uncle Sam," he says.
Retirees can rebalance assets to more tax-favorable accounts and reallocate to more tax-preferred investments to increase overall income and deter double taxation, Tyner says.
He recalls a client who had $400,000 in four separate CDs, all from different banks. Though smart investments for her needs, they added an extra $16,000 of investment income. Had that money been put in a fixed annuity -- other instruments could include other tax deferred annuities, tax-favored EE/E savings bonds and in-state municipal bonds -- she would have been able to save thousands of dollars in taxes.
"Tax-favored vehicles allow you to have a gain and keep it from showing up on this year's tax return," Tyner says. "You can rebalance from your left pocket with a tax hole in it over to your right pocket, so to speak. It is still in a safe place and you are still making the same money, but you do not get a 1099. If you can reduce your overall income, the reportable income, and do it appropriately by using tax-favored financial instruments, you may not have to pay a Social Security tax."
Failing to do so could cost some investors $75,000 or more over a 25-year retirement, Tyner says, and for those on fixed income any extra tax hit is even more damaging.
"Let's say you are getting 2% and you have a $100,000 CD," he says. "That's going to pay you just $2,000. Now factor in that you have to possibly pay a state tax, federal tax and you trigger a Social Security tax. What it the net rate of return? You thought you getting 2% on your CD, but you are really getting after taxes is probably only about 0.75%. With gas going up and inflation, every dollar counts."
-- Written by Joe Mont in Boston.
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