This article was updated on April 13, 2018, and originally published on Jan. 17, 2016.
Because the average American's income has made little headway over the past decade and employers have shifted away from pensions, many Americans have fallen behind on their retirement savings goals.
As a result, more people are choosing to supplement their Social Security income by continuing to work than ever before. Working later in life can be a good income-boosting strategy, but there's a hitch. Social Security can withhold some of your Social Security income if you earn more than $17,040 in 2018.
Not everyone will be subject to the $17,040 income limit, but the limit does apply to people who have decided to take Social Security before reaching their full retirement age, which is between 66 and 67 years old, depending on the year in which you were born.
If you take Social Security before full retirement age and earn more than the $17,040 threshold, then every $2 dollars you earn above that level reduces your Social Security income by $1.
For example, Sandy is a 62-year-old who is taking Social Security early, with a full retirement age of 66 and four months, and Sandy has decided to continue working.
Because Sandy is taking Social Security early, she will receive 73.3% of the monthly income she would receive if she had waited to collect Social Security until her full retirement age. For argument's sake, let's assume Sandy's Social Security income at her full retirement age would be $1,000, which means she will collect about $733 per month in Social Security income, or $8,796, this year.
Now, let's assume that Sandy will make $20,000 in wages from an employer or $2,960 more than the $17,040 limit. In that scenario, her 50% reduction in her Social Security income would be $1,480.
Importantly, this $1,480 reduction in Social Security income won't be spread out evenly across Sandy's monthly Social Security checks. Instead, Social Security will withhold Sandy's checks until the reduction is eclipsed. In Sandy's case, this means her first three months of Social Security payments, or $2,199, will be held back. Her remaining nine monthly payments will come to her as planned this year in the previously expected amount of $733. What happens to the extra money she has withheld? That extra $719 ($2,199 withheld minus the $1,480 reduction amount) will be paid to Sandy next year.
Before worrying that the U.S. government will profit because of your decision to keep working, know that the money Social Security holds back won't be lost.
Instead, that money is factored back into the calculation of your full retirement age benefit, which in effect, increases your future Social Security income.
Additionally, it's important to know that there's no income reduction once you reach full retirement age. The income limit that reduces Social Security income only applies to recipients who are younger than full retirement age.
There is, however, one more thing to keep in mind. In the year you reach your full retirement age, Social Security will reduce your Social Security income by $1 for every $3 earned until the month you reach full retirement age by using a different income limit. In 2018, that limit is $45,360.
And another thing
Social Security doesn't penalize you for dividend income, interest, pensions, government payments, investment earnings, or capital gains. It only considers wages that are earned by working for an employer. If you're self-employed, then Social Security bases the calculation on net earnings, not gross earnings. Social Security does, however, count your contribution to a pension or retirement plan if it's included in your gross wages, so keep that in mind. If your situation is complicated or you're still unsure of how Social Security limits may affect you, contact Social Security or your tax planning professional for additional insight.