Dear Carrie,
Last year I started drawing Social Security at my full retirement age of 66 even though I'm still working full time. Do I have to pay income taxes on the Social Security benefits I received?
—A Reader
Dear Reader,
This is a question that stumps a lot of people because the answer depends on the particulars of each individual’s situation. Someone whose only income is from Social Security wouldn't pay income taxes on their benefits. But someone like you who has other income probably will have some tax liability.
Unfortunately, like so much else regarding taxes, the situation is a bit complicated. That's because it’s not just a matter of whether you'll pay taxes, but also the percentage of your benefits that will be taxed. And that depends on how much money you make.
IRS Publication 915 gives you a full explanation and worksheet examples to show how to calculate it all, but for simplicity's sake, here's a topline explanation that will hopefully give you a head start on understanding how the tax rules might apply to your situation.
It starts with your combined income
To find out if your benefits are taxable, you first have to determine what the IRS calls your combined or total income. This includes one half of your Social Security benefits PLUS all of your other income (salary, dividends, interest, retirement account distributions, etc.), including tax-exempt interest.
When married filing jointly, you and your spouse need to add together your incomes and social security benefits to get this total. Even if one spouse didn't receive Social Security benefits, you still have to add in that spouse's income.
If combined income is more than $25,000 for an individual or $32,000 for a couple, benefits may be taxable.
Up to 85 percent of benefits may be taxed
It may be disheartening that any of your Social Security benefits are taxable, but there's some comfort in knowing that there's a limit on how much of your benefit may be taxed. Again, the IRS has set income thresholds to determine the percentage.
- For single filers, if combined income is between $25,000 and $34,000, up to 50 percent of Social Security benefits may be subject to ordinary income taxes. If income is above $34,000, up to 85 percent of benefits may be taxed.
- For married filing jointly, if combined income is between $32,000 and $44,000 up to 50 percent of Social Security benefits may be taxable. If income exceeds $44,000, up to 85 percent of benefits may be taxed.
A couple of examples
Example A: Let's say you're single and you received $24,000 in Social Security benefits in 2016. You also had $21,000 in additional income plus $500 in tax-exempt interest. Half of your benefits plus your other income would give you a combined income of $33,500. That would put you below the $34,000 threshold, so only 50 percent of your benefits would be subject to income tax.
Example B: Now let's say you're married. You received $24,000 in Social Security benefits and your spouse received $12,000. You and your spouse also had additional income of $40,000 plus $2,000 in tax-exempt interest. Half of your combined benefits ($18,000) plus your other income would put you at $60,000—well over the top threshold of $44,000 for married filing jointly. In this case, up to 85 percent of your benefits would be taxable.
Another option
From your question, it sounds as if you chose to collect Social Security at your full retirement age (FRA) of 66 even though you decided to keep working full time. That's fine, and you may be enjoying the extra income Social Security provides. However, if now that you see the potential tax consequences, you think perhaps you jumped the gun on collecting Social Security, you do have another option. The Social Security Administration (SSA) may let you change your mind.
If you've already reached your FRA and are collecting benefits, it can be pretty straightforward. All you have to do is ask the SSA to temporarily suspend your payments. You'll stop receiving monthly payments—and your benefits will continue to increase until age 70 unless you request reinstatement before that date.
If you applied for benefits less than 12 months before changing your mind, you may be able to withdraw your application entirely and have it reinstated at a later date. The one catch is that you'd have to pay back any benefits you already received. Read more information here on the SSA website.
An important consideration in either case is that, when you suspend, benefits for anyone else drawing on your record, for instance spousal benefits, will also be suspended. (Benefits for ex-spouses are not affected.) Also, Medicare premiums would no longer be deducted. Instead, you'd be billed for them.
Just for the record, the rules are different for those who filed for Social Security early. Best to get the details before taking any action. There's a pretty good explanation at ssa.gov.
Talk to your tax advisor
At this point, it would be a good idea to talk to your accountant or tax advisor. With some professional insight and the actual numbers in front of you, it will be easier to decide what to do—or at least it may make the taxes seem like less of a burden.
For more updates, follow Carrie on LinkedIn and Twitter. Looking for answers to your retirement questions? Check out Carrie's book, "The Charles Schwab Guide to Finances After Fifty: Answers to Your Most Important Money Questions." This article originally appeared on Schwab.com. You can e-mail Carrie at askcarrie@schwab.com, or click here for additional Ask Carrie columns. This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager. Schwab does not provide tax advice. Clients should consult a professional tax advisor for their tax advice needs.
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