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When figuring your income taxes during retirement and on your Social Security benefits, the IRS uses your “combined income” and filing status as the two key indicators. At $36,000 per year from Social Security, none of your benefits would be taxable, since only half of your benefits are included in your combined income. However, most, if not all, retirees have additional sources of income, such as retirement account withdrawals, a pension, part-time wages, and more. When you factor these in, you could end up paying taxes on up to 85% of your total benefits. You may be able to manage this by using Roth accounts, earning income from nontaxable sources, or reducing your income by working less or taking smaller withdrawals.
Are you looking for professional help managing your retirement income and Social Security benefits? Speak to a financial advisor today.
How Social Security Benefits Are Taxed
If you receive a Social Security retirement benefit, you may have to pay income taxes on it. To see if you need to, divide your Social Security income in half. Then add up your adjusted gross income (AGI) plus any income from tax-exempt sources, such as municipal bonds. The result is called your “combined income,” and it, along with your filing status, helps determine how much of your Social Security income is taxable.
For example, if you receive $36,000 a year ($3,000 a month) from Social Security and have no other income, your combined income is $36,000 divided by 2, or $18,000. None of your benefits are taxable if your income is less than $25,000 for a single filer or $32,000 for a joint filer. So in this case, you owe nothing to the federal government.
Chances are, though, you’re not relying on Social Security alone. The Federal Reserve’s 2022 Report on the Economic Well-Being of U.S. Households found that 79% of retirees had one or more sources of personal income. If you’re in that majority, a portion of your Social Security may be taxable. Here’s how the brackets work:
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Single applicants
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The combined income is less than $25,000: none of your benefits may be taxable
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The combined income is between $25,000 and $34,000: up to 50% of your benefit may be taxable
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The combined income is greater than $34,000: up to 85% of your benefits may be taxable
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Joint applicants
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The combined income is less than $32,000: none of your benefits may be taxable
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The combined income is between $32,000 and $44,000: up to 50% of your benefit may be taxable
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The combined income is greater than $44,000: up to 85% of your benefits may be taxable
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An example of taxes on social security benefits
To see how this works, consider a single person who receives $36,000 in Social Security and withdraws $24,000 from their retirement account each year. For this person, their combined income would be half of their Social Security income ($18,000), plus $24,000 in other income, for a total of $42,000.
For example, if a single person has a combined income of $42,000, up to 85% of their Social Security benefits are taxable. That doesn’t mean you’ll have to pay an 85% tax rate on your $36,000 in Social Security benefits, and it doesn’t mean all 85% will actually apply.
To calculate how much tax you will pay on these Social Security benefits, you will need to follow the complex process of determining this via IRS Publication 915. Using this calculation method, the IRS document will help you reduce your income through a 19-step process that is too complex to discuss here. In short, at the end of this calculation, this situation equates to a taxable Social Security benefit of $11,300. This amount must then be added to your taxable income for the tax year.
If you need help with Social Security or other retirement benefits, a financial advisor can be helpful. Talk to one today.
Strategies to Potentially Lower Your Social Security Taxes
You may consider taking steps to reduce the amount of your Social Security benefits that are taxed. One is to reduce your income from sources that increase your combined income, if you can afford it. Again, your combined income is equal to your AGI (retirement account withdrawals, wages, etc.), tax-exempt income, etc. However, you may not be able to afford this route.
You can withdraw from a Roth IRA, if you have one. Roth withdrawals are not included in combined income because they provide tax-free benefits during retirement. You can take any amount of Roth withdrawals without exposing your Social Security benefits to taxes. If your retirement savings are held in both Roth and pre-tax accounts, you can also use a blended approach to avoid draining your Roth account too quickly while still minimizing some taxable income increases.
Selling investments that have declined in value can also write off up to $3,000 per year, further reducing your combined income. If you don’t have any such investments, you can use cash reserves to pay the bills that Social Security can’t cover. That won’t increase your combined income either.
Finally, you can time your withdrawals. For example, suppose your combined income is high enough in a year that a maximum of 85 percent of your Social Security benefits are taxable. You can take even more withdrawals than you need that year and save them for next year’s expenses. Because 85 percent is the maximum, you will not expose any Social Security benefits to taxes this year. And then you can take less next year and again minimize the tax on Social Security dollars.
These simple illustrative examples don’t cover some potentially important considerations. For example, some states tax Social Security benefits. And while most of these states follow the federal approach, some apply taxes differently. Also, individual details such as filing status and whether a spouse also receives Social Security benefits can significantly impact these situations. For personalized advice and help navigating the nuances, consider talking to a financial advisor.
Tips for retirement planning
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If you’re looking for ways to manage your Social Security benefits alongside your other sources of retirement income, a financial advisor can help. Finding a financial advisor doesn’t have to be difficult. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can schedule a free introductory meeting with your advisors to decide which one is right for you. If you’re ready to find an advisor who can help you reach your financial goals, get started now.
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Social Security is a crucial part of many retirees’ income plans. Estimate how much you’ll receive from this important source of income with SmartAsset’s Social Security calculator.
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Keep an emergency fund on hand in case you run into unexpected expenses. An emergency fund should be liquid—in an account that isn’t subject to big swings like the stock market. The tradeoff is that the value of liquid assets can be eroded by inflation. But a high-interest account allows you to earn compound interest. Compare savings accounts from these banks.
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