Many people don't realize it, but Social Security benefits aren't necessarily tax-free retirement income. Depending on a few factors, you might have to pay taxes on some of the retirement benefits you receive. It's important to know what to expect before you start collecting your benefits, so here are five key Social Security taxation concepts you should be familiar with.
1. As much as 85% of your Social Security benefits can be taxed
The short version of Social Security taxation is that some Americans must pay tax on Social Security benefits, and it generally only applies to those for whom Social Security isn't their only primary income source. (More on this in the next section.)
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However, under no circumstances will anyone have to include all their Social Security benefits in their taxable income. Even for the highest-income retirees, no more than 85% of Social Security benefits can be taxable.
2. A special income figure is used
When determining if your Social Security benefits are taxable, the SSA uses a figure called "combined income," which is the sum of three numbers:
- Your adjusted gross income, or AGI.
- Any nontaxable interest you receive.
- Half of your Social Security benefits.
For example, if you have AGI of $30,000 and you receive $30,000 from Social Security, and don't have any nontaxable interest income, your combined income would be $45,000.
3. The formula to calculate the tax is complicated
Once you have figured out your combined income, there are three different categories you can fall into:
- If your combined income is less than $25,000 (individual filers) or $32,000 (joint filers), your Social Security benefits aren't taxable.
- If your combined income is between $25,000-$34,000 (individual) or $32,000-$44,000 (joint), up to 50% of your benefits can be taxable.
- If your combined income is greater than $34,000 (individual) or $44,000 (joint), as much as 85% of your benefits can be taxable.
The IRS has a worksheet in Publication 915 that can be used to calculate your exact tax. Having said that, the simple version is that if Social Security accounts for the bulk of your retirement income, it's unlikely that your benefits will be subject to tax. On the other hand, if you have substantial sources of other income, such as 401(k) or IRA distributions, a pension, or lots of interest income, it will probably push your combined income into the taxable realm.
4. Taxes on Social Security benefits help fund the program
Taxation of Social Security benefits began as a result of the 1983 Social Security Amendments as a way to increase the money flowing into Social Security without raising taxes on all Americans. And it remains a significant source of income for the program. In 2022, Social Security brought in $1.22 trillion, and nearly $49 billion of it came directly from the taxation of benefits. Overall, Social Security ran a $22 billion deficit in 2022, but it would have been more than three times as much if it wasn't for taxes on higher-income retirees.
5. Some states tax Social Security benefits
So far, we've only discussed federal taxes on Social Security benefits, but what about state income taxes?
The good news is that most states don't tax Social Security income – but a few do. As of 2023, 12 states tax Social Security benefits to one extent or another. Some use the same general guidelines as federal income tax, but others have much lighter taxes. For example, one of the states that taxes Social Security benefits is Colorado, but the tax only applies to people collecting Social Security who haven't turned 65 yet.
The bottom line on Social Security benefit taxation
The important takeaway is that Social Security benefits are taxed more favorably than most other types of income, but contrary to the popular misconception, they aren't necessarily a tax-free source of retirement income for everyone. The taxes you'll pay on your Social Security benefits depend on a few factors, such as your other sources of income, state of residence, and marital status, but it's important to know what to expect before you start collecting your monthly checks.
