Social Security benefits are 100% tax-free when your income is low. As your total income goes up, you’ll pay federal income tax on a portion of the benefits while the rest of your Social Security benefits remain tax-free. This taxable portion goes up as your income rises, but it will never exceed 85%. Even if your annual income is $1 million, at least 15% of your Social Security benefits will stay tax-free.
Taxation of Social Security Benefits
The amount of the taxable Social Security benefits becomes part of your gross income on your tax return. It’s still subject to your normal deductions to arrive at your taxable income. You still pay at your normal tax rates on the taxable amount. 50% or 85% of your benefits being taxable doesn’t mean you’ll lose 50% or 85% of your Social Security to taxes. The actual taxation on your benefits is much less. The tax may actually be zero after applying deductions.
The IRS has a somewhat complex formula to determine how much of your Social Security is taxable and how much of it is tax-free. The formula first calculates a combined income that consists of half of your Social Security benefits plus your other income such as withdrawals from your retirement accounts, interest, dividends, and short-term and long-term capital gains. It also adds any tax-exempt interest from muni bonds. This income is then reduced by a number of above-the-line deductions such as deductible contributions to Traditional IRAs, SEP-IRAs, SIMPLE IRAs, HSAs, deductible self-employment tax, and self-employment health insurance. Finally, this provisional income goes through some thresholds based on your tax filing status (Married Filing Jointly or Single/Head of Household). All of these steps are in Worksheet 1 in IRS Publication 915.
You can go through the 19 steps in the worksheet to calculate the amount of social security benefits that will be taxable but the worksheet isn’t the easiest to use. I made an online calculator that helps you calculate much more quickly. After you give three numbers plus your tax filing status, you’ll have your answer by the click of a button.
The calculator works for all types of Social Security benefits. It doesn’t matter whether you’re receiving retirement income benefits, disability benefits, spousal benefits, or survivor benefits as a widow or widower. It only applies to federal taxes though. Different states have different rules on taxing Social Security benefits. State taxes don’t necessarily follow the same rules as the federal government.
When more than 15% of your Social Security is tax-free, additional income outside Social Security will make more of your Social Security benefits taxable, reducing that number toward 15%. Some people call this a tax torpedo, but it’s a misleading term. It gives you the impression that Social Security is taxed more heavily than other income, which is not true. You actually still pay lower taxes than other people with the same income. See why that’s the case in An Unusually High Marginal Tax Rate Means Paying Lower Taxes.
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