Some taxpayers have to pay federal income taxes on their
Social Security benefits. This usually happens only if they have other
substantial income (such as wages, self-employment, interest, dividends and
other taxable income that must be reported on your tax return) in addition to
Social Security benefits.
Taxable Benefits
To determine the amount of Social Security or Railroad
Retirement benefits that may be taxable, taxpayers must compare the base amount
with the total of: 1) One-half of the benefits received, plus
2) All other income, including tax-exempt interest.
Other income is not reduced by any exclusions for:
• Interest
from qualified U.S. Savings Bonds,
• Employer-provided
adoption benefits,
• Foreign
earned income or foreign housing, or
• Income
earned by bona fide residents of American Samoa or Puerto Rico.
Planning Tip: If the only income received during the year
was Social Security or Railroad Retirement benefits, the benefits are generally
not taxable. Taxpayers should consider taking taxable IRA distributions and/or
doing Roth conversions. Careful planning must be made to not take too large of
a distribution so as to cause Social Security or Railroad Retirement benefits
to be taxable.
How Much Is Taxable?
Generally, up to 50% of benefits will be taxable. However,
up to 85% of benefits can be taxable if either of the following situations
applies.
• The total
of one-half of the benefits and all other income is more than $34,000 ($44,000
for Married Filing Jointly).
• The
taxpayer is Married Filing Separately and lived with his or her spouse at any
time during the year.
Who is taxed.
Benefits are included in the taxable income (if taxable) for
the person who has the legal right to receive the benefits.
Withholding.
A taxpayer can choose to have federal income tax withheld
from Social Security or Railroad Retirement benefits by completing Form W-4V,
Voluntary Withholding Statement.
Investments That Help Reduce Taxable Social Security
Benefits
Taxpayers may be able to reduce taxable Social Security
benefits by reallocating investments that are generating income which is
includable in the calculation used to determine taxable Social Security
benefits to investments that do not generate includable income.
Tax Planning Strategies
U.S. Series EE and I bonds. Taxpayers who are earning
taxable interest income from a bank CD that is causing a portion of Social
Security benefits to be taxed, could switch the investment to U.S. savings
bonds. Annual purchase limits apply.
Nonqualified annuities. Like interest accrued on U.S.
savings bonds, earnings on a nonqualified annuity are deferred until the
investment is cashed in. One advantage of choosing nonqualified annuities
rather the U.S. savings bonds is there is no annual limit on the amount of
principal that can be invested.
Real estate, gold, and other investments that produce
capital gains. By switching investments from mutual funds and stocks that
produce dividend income to investments that produce capital gains, the taxpayer
may realize tax savings by reducing the amount of Social Security benefits
subject to tax.