- The taxable social security income threshold has not been adjusted for decades.
- As a result, more beneficiaries are exposed to income tax on their benefits.
- But there are moves that beneficiaries can do to avoid tax surprises.
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Older taxpayers may find that they owe Uncle Sam more than they expected this tax season.
Why: More Social Security benefits are likely to be taxed following the high cost of living adjustment of 5.9% in 2022. when they submit next year.
Unlike other tax thresholds, Social Security income levels are not adjusted for inflation since benefits are taxed. started in 1984.
Without moving the brackets and indexing, more and more people will be subject to income tax on their Social Security benefits, according to David Freitag, a financial planning consultant and social security expert at MassMutual.
The result will be a “stealth tax,” says Freitag.
Up to 85% of social security benefits may be taxedbased on current tax law.
The dues paid by beneficiaries are determined by a formula called “combined” income. This is the sum of adjusted gross income, tax-exempt interest, and half of social security benefits.
Those eligible for the highest tax rate on benefits (up to 85%) have combined income of $34,000 or more if filed individually or $44,000 or more if married and jointly filed.
Individuals with combined income of $25,000 to $34,000 or couples with $32,000 to $44,000 are taxed up to 50% of their benefits.
Individuals and couples with combined incomes below these levels do not pay taxes on their benefits.
According to The Senior Citizens League, if the threshold had been adjusted for inflation, the first $25,000 level at which individuals would begin to be taxed would instead be around $73,000. First of the couple his $32,000 threshold would be $93,200.
According to a recent study by the Senior Citizens League, a bipartisan senior citizen group, 58% of older taxpayers Please adjust the social security threshold.
“They say it’s age discrimination, it’s discriminatory, and its thresholds are adjusted like income tax brackets and standard deductions,” said Mary Johnson, a senior Citizens League Social Security and Medicare policy analyst. I feel very strongly that I am not.
“Many of them want to get rid of that tax entirely,” Johnson said.
But changing the threshold would require a majority of House and Senate members to approve it, which could be difficult to obtain, Johnson noted.
For now, it’s up to the beneficiaries to manage their money carefully to minimize their tax liability.
One way to ensure you don’t face an unexpectedly large claim when you pay your taxes is to withhold more federal income tax from your benefits.
With the 8.7% cost-of-living adjustment for 2023 that went into effect in January, adjusting the withholding tax “makes sense globally,” Freitag said.
Such a move is a “defense plan,” he said.
“We may want to increase the withholding a little bit next year to avoid surprises and shocks,” Freitag said.
For many retirees, it may be difficult to prepare a large check to send to the government by April 15th. (April 18th is the tax date for 2023 This is because April 15th is a weekend, and Monday, April 17th is Emancipation Day in Washington DC. )
Freitag says it’s easier to receive money every month instead.
To adjust withholding, the beneficiary must complete IRS Form W-4VPayees can choose from four levels of withholding from Social Security checks: 7%, 10%, 12%, or 22%.
Freitag said he usually advises beneficiaries who are concerned about their tax liability to withhold at least 10%, and possibly 12%.
Alternatively, the beneficiary may direct the tax authority to stop withholding federal income tax altogether.
If you are receiving huge repayments such as “interest-free loans to the government”, you may want to consider reducing your tax withholding.
According to Freitag, beneficiaries with traditional IRAs or other funds that can be drawn on a 401(k) may want to look there first and delay claiming Social Security benefits.
The reason comes down to how these sources of income are taxed.
For example, a $1 withdrawal from a traditional Individual Retirement Account (IRA) is 100% reported. (Importantly, this does not apply to losses, which the depositor can choose to keep, as these withdrawals are not taxed.)
However, up to 85% of social security contributions are taxable.
“Every dollar of Social Security has a minimum 15% advantage over distributions from eligible plans,” Freitag said.
Using qualifying money early in retirement may help you defer applying for Social Security benefits. It’s also possible that the retiree will be able to enjoy an 85% tax break for the rest of his life, Freitag said.