Receiving Social Security benefits is an important source of income during retirement, but like almost every other form of income, these benefits are taxed by the government. To accurately predict your retirement income (and taxes), it’s important to understand how Social Security benefits are taxed.
How are Social Security Benefits Taxed?
A portion of benefits may be subjected to federal income taxes. The Internal Revenue Service (IRS) uses a formula—known as the provisional income formula—to determine the taxable amount.1
Provisional Income Formula
An individual’s provisional income is calculated by adding together a taxpayer's adjusted gross income (AGI), their nontaxable interest, and one-half of their Social Security benefits. The resulting amount is compared to specific thresholds to determine the portion of the benefits that will be subject to taxation.
The thresholds that determine whether Social Security benefits are taxable are as follows:2
- Single filers with a provisional income between $25,000 and $34,000 may have up to 50% of their benefits subject to taxation.
- Single filers with a provisional income exceeding $34,000 may have up to 85% of their benefits subject to taxation.
- Married couples filing jointly with a provisional income between $32,000 and $44,000 may have up to 50% of their benefits subject to taxation.
- Married couples filing jointly with a provisional income exceeding $44,000 may have up to 85% of their benefits subject to taxation.
It’s important to note that these thresholds are not adjusted for inflation, which means that the benefits of more retirees may become subject to taxation over time.
Understand State Tax Laws
Illinois currently does not tax social security benefits. If you live in a state that taxes Social Security benefits, familiarize yourself with the rules and exemptions that are specific to your state.
As the famous saying goes, there are only two guarantees in life: death and taxes. Social Security benefits aren’t exempt from taxes, and understanding how your benefits will be taxed will help you form an accurate retirement income planning strategy.
David Rappaport, CFP®
David is the Co-Founder of Rappaport Reiches Capital Management. He acts as personal CFO to entrepreneurs and corporate executives, providing organization and clarity in their finances. Please connect with David below. He loves to talk about investing, financial planning, and Aspiritech, a non-profit hiring individuals on the autism spectrum.
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