Why Social Security Taxes Are Sky-High, and How You Can Avoid Them


social-securityRetirees have become increasingly dependent on Social Security for the bulk of their retirement income. Yet even though most retirees have few other sources of income and rely on their retirement savings to supplement Social Security, current tax laws are designed to punish even Social Security recipients with modest incomes, with effective marginal tax rates of as much as 46%, topping what the highest-income taxpayers in the nation pay.

The strange taxation of Social Security
You won’t find a 46% rate explicitly written down anywhere in the tax code. But as a recent post from financial planner Michael Kitces explains, buried in the law are provisions that phase in taxes on Social Security benefits for those earning certain amounts of other income.

Here’s how it works. The IRS looks at your total taxable income and then adds in half of your Social Security benefits. For every $1 by which that figure exceeds $25,000 for single filers or $32,000 for joint filers, another $0.50 of your benefits get added to your taxable income. Once the figure exceeds $34,000 for singles or $44,000 for joint filers, the amount added to your income jumps to $0.85 per $1.

The net impact of those provisions can dramatically increase the tax rates that Social Security recipients pay. In some cases, those in the 15% tax bracket pay an effective marginal rate of almost 28%, while those in the 25% bracket pay more than 46%.

Social Security Administration Building, Washington, D.C.

Are Social Security taxes fair?
Proponents of the tax argue that if you have enough other income, it’s only fair to add a tax on Social Security. But the big problem is that in determining the tax, taxable withdrawals from retirement accounts like traditional IRAs and 401(k)s are included in income. Essentially, those who’ve saved all their lives for their retirement get penalized for their smart financial planning.

Fortunately, there are steps you can take to minimize the impact:

  • Use Roth IRAs. Roth IRAs are different from regular retirement accounts in that their distributions are tax-free. They also aren’t included in the income figure the IRS comes up with for deciding whether Social Security benefits are taxable, so using Roth assets can cut your tax bill even further.
  • Invest in tax-smart funds and ETFs. Investors who use actively managed mutual funds often get hit with big distributions of income and capital gains that are taxable and thereby make them more susceptible to paying tax on their Social Security. But low-cost stock index funds Vanguard Total Stock (NYSEMKT: VTI ) , iShares Russell 2000(NYSEMKT: IWM ) , and SPDR S&P 500 (NYSEMKT: SPY ) usually pay out only their annual income, generally avoiding capital gains and keeping your other-income figure lower.
  • Time your IRA withdrawals. Keeping taxable income below the limit is smart if you can afford it, but many people need their IRA withdrawals to pay living expenses. For them, it may actually make sense to take more money out of IRAs, because once the maximum amount of your Social Security is taxed, your marginal rate goes back down.

Admittedly, calculating the tax on your Social Security is more complex than many retirees can handle. The key, though, is to know that those sky-high tax rates are out there so that you can get the help you need to keep your taxes from soaring.


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  1. Beware. The amount of social security you receive is calculated according to how much you paid. The less you pay, the less you get. On the other hand, the more you pay the more you get, and if you live to be older, you will probably end up getting it all back. Social security isn’t a “tax” – it’s a forced savings plan in which you are forced to put in money now so you will have it it the future. You’re not losing the money, you’re just putting off using it until you’re older – and for most of us income goes down after we stop working.

    Unlike pension plans which depend on the market, social security can’t be wiped out in an economic crash.

    And look up things like “marginal tax rate.” All those big scary rates turn out to be a lot less in dollars and cents than you would think. Trust your CPA, not a journalist.

  2. Oh, and note that those tax rates only apply to investments. Those people who can’t afford to invest in IRAs and other financial packages – maybe because they’re paying yeshiva tuition? – only have to worry about the social security tax on wages, which is capped. When you’re seventy and your kids can’t afford to help you much because they themselves are now paying tuition, you’ll be glad that social security is there.

  3. It only works if we raise the minimum age to collect. people are living longer and therefore will collect a lot more of the money.
    Its basically a Ponzi Scheme and all those of us 40 and under will likely not get anything. But this Ponzi Scheme is somehow legal…

  4. to #1, #2:
    You sir are for sure not a CPA. The bottom line is that we are already paying income tax – every year of our working lives – on our whole annual income, including on the FICA, which you refer to as a “forced savings plan”. Imagine, someone saving away post-tax money his or her entire life; then when he or she finally withdraws from this savings account, IRS goons come and demand “fair” share – impossible you say, yet that is the Social Security Taxes story. Is it just a Cyprus mentality?-yet Roth IRA is not double taxed-at least not yet. Or is it a proof that FICA is just another hidden tax, therefore its benefits are not a savings plan distributions – rather a “present” from a “kind socialist government”, hence the possible income tax on the above “present”.