It’s a common misconception to believe that Social Security benefits are tax-free. While that is the case for some people, for many Americans who have other sources of taxable income, some or even most of their Social Security income will be taxable. When does Social Security become taxable? Read further to find out.
When are Social Security benefits tax-free?
The threshold for tax-free benefits is quite low. Your total income (which includes Social Security benefits, pensions, IRA distributions, capital gains, etc.) must be below $25,000 for individuals and $32,000 for those married filing jointly.1 Not exactly a large income, especially for higher cost-of-living states like Massachusetts and New Hampshire! Sadly, these amounts are not updated for inflation, so more of Americans’ Social Security income is taxed each year.
How much of Social Security is taxable?
This is also dependent on how much income you have. Up to 85% of your Social Security benefits can be taxable for . As an example, in 2024, if a married couple has $50,000 of pension or IRA income, they would be in the 10% tax bracket and pay $1,933 in taxes after the standard deduction. Once they start collecting $24,000 in Social Security benefits, they bump up into the 12% tax bracket and would pay $4,327 in taxes, an increase of $2,394 ($24,000 x 85% = $20,400 in additional income, or 11.7% (some taxed at 10% and some at 12%)).
To make matters more complicated, benefits are only 50% taxable if your married filing jointly total income falls between $32,000 and $44,000. However, regardless of the amount of income you have, at the time of this writing, your benefits will not be more than 85% taxable.
Tax traps to look for
The tricky part with Social Security benefits is that the more income you have, the more it becomes taxable. What this means is that it is possible for those in a low tax bracket to pay a high percentage on additional income as more of their Social Security benefits become taxable. How might you get additional income? Taking money from your IRA is a common way that retirees can increase their total income. Even realizing capital gains from a taxable investment account can have a dramatic impact on Social Security taxation if you’re not being careful.
Calculating what impact additional income has on your Social Security benefits can be tricky. The best way to estimate this impact is by using professional tax planning software or working with a financial advisor or CPA.
What about state taxes?
Another wrinkle when considering tax impact is whether your state will also tax these benefits. Luckily for those in New England, New Hampshire doesn’t have a traditional income tax (just on dividends and interest), and Massachusetts does not tax Social Security income. However, some states do tax Social Security, so it’s important to take this into consideration when planning for taxes on your income.
Wrap-up
Social Security taxes are more complex than most people realize. They can be particularly treacherous if you normally have a low income but generate additional income during the year. If you’re claiming Social Security, stop and think twice before pulling additional money out of your IRA. You might end up paying more taxes than you realize.
There are many intricacies to Social Security. For more of our thoughts on this topic, see:
Social Security and Retirement Planning – A Hit or Myth Proposition | Milestone Financial Planning
Social Security Scams | Milestone Financial Planning
Social Security Retirement Payments at the Death of a Spouse | Milestone Financial Planning
If you need assistance with your retirement or tax planning, please reach out to our team.
Disclaimer: This is not to be considered investment, tax, or financial advice. Please review your personal situation with your tax and/or financial advisor. Milestone Financial Planning, LLC (Milestone) is a fee-only financial planning firm and registered investment advisor in Bedford, NH. Milestone works with clients on a long-term, ongoing basis. Our fees are based on the assets that we manage and may include an annual financial planning subscription fee. Clients receive financial planning, tax planning, retirement planning, and investment management services and have unlimited access to our advisors. We receive no commissions or referral fees. We put our client’s interests first. If you need assistance with your investments or financial planning, please reach out to one of our fee-only advisors. Advisory services are only offered to clients or prospective clients where Milestone and its representatives are properly licensed or exempt from licensure.
