Know a Little-Known Method to Reduce Your Social Security Taxes

By Ehsteem Arif

Published on:

Joe Biden

Knowing taxes on Social Security benefits can be tricky, but knowing and employing effective strategies to reduce these taxes can provide significant financial relief. With around 40% of US households paying taxes on their monthly benefits, it’s essential for retirees and their families to look into ways to minimize this burden.

Here, we’ll discuss some lesser-known methods to reduce the tax impact on Social Security benefits. Always consult with a financial or tax advisor for personalized advice.

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Tax Calculation Basics

Social Security taxes are based on your income, and reducing your taxable income can lower the portion of your benefits subject to tax. Let’s break down how Social Security taxes are calculated and explore some ways you might save on these taxes.

Combined Income Formula

Knowing combined income is crucial. Here’s the formula:

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Combined Income = Adjusted Gross Income (AGI) + Nontaxable Interest + 50% of Social Security Benefits

For example, if your annual Social Security income is $39,600, your starting combined income is $19,800 if you have no other earnings.

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Tax Brackets for Social Security Benefits

  • Single Filers:
    • Less than $25,000: No taxes on benefits
    • $25,000 – $34,000: Up to 50% of benefits taxed
    • More than $34,000: Up to 85% of benefits taxed
  • Married Couples Filing Jointly:
    • Less than $32,000: No taxes on benefits
    • $32,000 – $44,000: Up to 50% of benefits taxed
    • More than $44,000: Up to 85% of benefits taxed

Calculating Taxable Income

Once you determine your tax bracket, you can calculate your taxable income by multiplying your total Social Security benefits by the percentage based on your bracket (0%, 50%, or 85%). Add this to your remaining taxable income to find the amount subject to tax.

Strategies

Reducing taxable income and marginal tax rates are key strategies for minimizing taxes on Social Security benefits. Here are some methods retirees can use:

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Federal Withholding

You can request the SSA to withhold federal taxes from your Social Security checks. This spreads the tax burden over the year, preventing a large lump-sum tax payment when you file your return.

Capital Gains Conversions

Converting money from a pre-tax retirement account to a taxable brokerage account can be beneficial. While withdrawals may incur capital gains and income taxes, capital gains taxes don’t count towards your total income for Social Security tax purposes. Be aware of the upfront tax on the withdrawal from the pre-tax portfolio.

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Roth Conversions

Roth IRA withdrawals typically don’t significantly tax Social Security benefits. Converting traditional IRA funds to a Roth IRA can reduce taxable income in the long run. However, Roth conversions have high upfront tax costs, which might outweigh the benefits for those nearing or in retirement.

Planning Withdrawals

Strategically planning withdrawals to avoid higher tax tiers can be effective. Savings are not considered income for tax purposes, so managing when and how much to withdraw from various accounts can keep your combined income in lower tax brackets. However, this may require balancing potential investment returns against tax savings.

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Practical Example

Suppose your expected monthly Social Security benefit is $3,300. If your combined income exceeds the threshold for taxing benefits, consider the following:

  • Withholding Federal Taxes: Request withholding to manage tax payments.
  • Capital Gains Strategy: Move funds from pre-tax retirement to taxable accounts while considering capital gains implications.
  • Roth Conversion: Evaluate the tax impact of converting traditional IRA funds to a Roth IRA.
  • Withdrawal Planning: Schedule withdrawals to stay within favorable tax brackets.

These strategies can help you minimize the portion of your Social Security benefits subject to tax, ultimately saving you money.

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Looking into these strategies and consulting with a financial advisor can help retirees reduce their tax burden and maximize their Social Security benefits. By knowing how taxes on Social Security are calculated and using these methods, retirees can better manage their finances and enjoy a more secure retirement.

FAQs

How is combined income calculated?

Combined income = AGI + nontaxable interest + half of Social Security benefits.

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What are the tax brackets for Social Security benefits?

Single filers: <$25k (0%), $25k-$34k (50%), >$34k (85%); Married: <$32k (0%), $32k-$44k (50%), >$44k (85%).

Can withholding reduce my Social Security taxes?

Yes, requesting federal withholding spreads tax payments over the year.

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Are Roth IRA withdrawals taxable?

Generally, Roth IRA withdrawals do not significantly tax Social Security benefits.

How can planning withdrawals reduce my tax burden?

Strategically managing withdrawals can keep combined income within lower tax brackets.

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Disclaimer- We are committed to fair and transparent journalism. Our Journalists verify all details before publishing any news. For any issues with our content, please contact us via email. 

Ehsteem Arif

A tax law expert with a knack for breaking down complex regulations into digestible insights. Ehsteem's articles on the tax news blog offer invaluable guidance to readers navigating changes in tax legislation.

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