Social Security tax Torpedo

[SevenUp]

The SS hump tax torpedo is not inflation adjusted and therefore is slowly fading away as an issue...

...or becoming an issue, depending on which side of the hump one is currently on.

 

[TheWizard]

The max age 70 SS benefit is now a bit over $50,000 per year.
In 15-20 years, it'll be $100,000 per year, enough for a single person to have it be 85% taxable without any additional income...

 

[FiveDriver]

To put some actual dollar figures around the Torpedo, I have found this blurb from MorningStar to be helpful --

This MAGI zone is where the torpedo can hit. For each dollar of combined income above $34,000 for single filers and $44,000 for married couples, an extra $0.85 of Social Security benefits are taxed (until 85% of benefits are taxable, which is the maximum).

In this income range, each additional dollar of MAGI causes taxable income to rise by $1.85. Thus, the marginal tax rate is 185% of the tax bracket.

 

[TheWizard]

To put some actual dollar figures around the Torpedo, I have found this blurb from MorningStar to be helpful --

This MAGI zone is where the torpedo can hit. For each dollar of combined income above $34,000 for single filers and $44,000 for married couples, an extra $0.85 of Social Security benefits are taxed (until 85% of benefits are taxable, which is the maximum).

In this income range, each additional dollar of MAGI causes taxable income to rise by $1.85. Thus, the marginal tax rate is 185% of the tax bracket.

Right.
And so, if a married couple has $88,000 or more of SS income, now or in the future, 85% of that entire amount is taxable, without any additional income...

 

[FiveDriver]

Right.
And so, if a married couple has $88,000 or more of SS income, now or in the future, 85% of that entire amount is taxable, without any additional income...

It's very easy to get to $88K when you add up Pension, SS, RMD, Dividends, and Interest Income.

What else goes into MAGI ?

 

[SevenUp]

It's very easy to get to $88K when you add up Pension, SS, RMD, Dividends, and Interest Income.

What else goes into MAGI ?

See The formula.

Some time spent volunteering for Tax-Aide or VITA might influence the "very easy" presumption.

 

[Montecfo]

The SS hump tax torpedo is not inflation adjusted and therefore is slowly fading away as an issue...

Yes. And per your earlier definition, if you plan for it it does not exist.

I do think calling it a torpedo is a bit dramatic but others may differ. After all a torpedo can sink you. A hump just needs to be crossed.

 

[TheWizard]

Yes. And per your earlier definition, if you plan for it it does not exist.

I do think calling it a torpedo is a bit dramatic but others may differ. After all a torpedo can sink you. A hump just needs to be crossed.

Regarding the SS tax hump, if you have a good amount of pension/annuity income, then you will be well past the humps and 85% of SS will be taxable from the time you start it.

But then you can get into the Medicare IRMAA tiers, which may be even more exciting than the tax humps...

 

[Koolau]

Regarding the SS tax hump, if you have a good amount of pension/annuity income, then you will be well past the humps and 85% of SS will be taxable from the time you start it.

But then you can get into the Medicare IRMAA tiers, which may be even more exciting than the tax humps...

Simply can't avoid the "hump" for SS if you're getting almost any money these days. We're all going well past the hump (with a few exceptions as always.) So don't worry about it. BUT IRMAA is something that many of us can carefully manage to our advantage. It's worth the effort.

 

[Car-Guy]

I don't like paying IRMAA anymore than anyone else, but for a typical 65+ year old MCFJ that had a MAGI between $194,000 to $246,000 in 2021 they will pay less than $2k in IRMAA related tax this year.

 

[SevenUp]

I don't like paying IRMAA anymore than anyone else, but for a typical 65+ year old MCFJ that had a MAGI between $194,000 to $246,000 in 2021 they will pay less than $2k in IRMAA related tax this year.

Annoying at the least should their MAGI have been $194,001 instead of $194,000....

 

[pb4uski]

I don't like paying IRMAA anymore than anyone else, but for a typical 65+ year old MCFJ that had a MAGI between $194,000 to $246,000 in 2021 they will pay less than $2k in IRMAA related tax this year.

I pretty much agree, but if I had to pay $2k of IRMAA premiums because my MAGI was $194,050, I would be very upset... if it were $245,950 then not so much.

 

[EastWest Gal]

I pretty much agree, but if I had to pay $2k of IRMAA premiums because my MAGI was $194,050, I would be very upset... if it were $245,950 then not so much.

I think with that income, $2K of insurance premiums should not make one “very upset”. Life is too short to be concerned about an extra 1% of expense for health care.

I went back to work in 2017 due to the ACA almost being gutted. I was not sure I was going to be able to get health insurance. Our premiums were $1700/month or $20K/yr. Our income from capital gains and dividends wasn’t even $100K. We were paying about 1/4 of our income for health insurance.

 

[Route246]

I have a pretty good CPA who has explained these inevitabilities to me. These concerns tend to affect people living exactly at their means. Since we are living very far below our means it becomes a nuisance and manageable burden that the vast majority of the population would like to suffer from.

He told me, "Congratulations, you are rich, however you are not rich enough to avoid paying taxes. Sorry about that but consider yourself fortunate to have these problems." I know he is half-joking when he says this but there are plenty of people who would trade places. We will never, ever have to worry about finances. Paying high taxes comes with that privilege.

I guess we need a definition of Tax Torpedo then?
I would say that it's a situation where additional Taxable Income materializes that wasn't totally planned for, resulting in *much higher* taxes for the indefinite future, compared to the past several years.

The classic example is an early retiree living on funds from a taxable account with very low taxes, only to have much higher taxable income when SS and RMDs start.

I would NOT call a situation with sustained high income beyond one's expenses a tax torpedo...

 

[SecondCor521]

I don't like paying IRMAA anymore than anyone else, but for a typical 65+ year old MCFJ that had a MAGI between $194,000 to $246,000 in 2021 they will pay less than $2k in IRMAA related tax this year.

I think the number is actually $5,539 or so.

I think you're pointing to the first tier IRMAA for MFJ for 2023. Numerous web sources say the surcharge is $230.80 per month per person.

$230.80 * 12 * 2 = $5,539.20

If I did my math right, that $5,539.20 on an income of $194K represents an additional marginal tax rate of 2.85%. Not the end of the world, but could affect tax planning on the margins.

One such source:
https://www.nerdwallet.com/article/insurance/medicare/what-is-the-medicare-irmaa

(If the couple has Part D, there would be Part D IRMAA surcharges too.)

 

[jimbee]

I wouldn't consider a 65+ year old MCFJ that had a MAGI between $194,000 to $246,000 in 2021 to be typical.

 

[SevenUp]

I think the number is actually $5,539 or so.

I think you're pointing to the first tier IRMAA for MFJ for 2023. Numerous web sources say the surcharge is $230.80 per month per person.

$230.80 * 12 * 2 = $5,539.20

If I did my math right, that $5,539.20 on an income of $194K represents an additional marginal tax rate of 2.85%. Not the end of the world, but could affect tax planning on the margins.

One such source:
https://www.nerdwallet.com/article/insurance/medicare/what-is-the-medicare-irmaa

(If the couple has Part D, there would be Part D IRMAA surcharges too.)

The $230.80 is the total premium, not the surcharge. From the linked source, the base rate is $164.90 so the surcharge is $230.80 - $164.90 = $65.90.

On the other hand, you wouldn't want to use total income in the denominator because that's an effective rate and you'd want to use a marginal rate. The Worth pushing through the Social Security hump and/or IRMAA cliffs? wiki section has some good illustrations.

The marginal rate for going $1 over the first IRMAA tier is ridiculously large, as happens with any tax "cliff". At best (and coincidental to the quoted calculation), if one can completely fill the $52K-wide tier, the marginal rate due to IRMAA alone is $65.90 * 12 * 2 / $52K = 3%, as the second chart in the above wiki section also shows.

 

[SecondCor521]

The $230.80 is the total premium, not the surcharge. From the linked source, the base rate is $164.90 so the surcharge is $230.80 - $164.90 = $65.90.

On the other hand, you wouldn't want to use total income in the denominator because that's an effective rate and you'd want to use a marginal rate. The Worth pushing through the Social Security hump and/or IRMAA cliffs? wiki section has some good illustrations.

The marginal rate for going $1 over the first IRMAA tier is ridiculously large, as happens with any tax "cliff". At best (and coincidental to the quoted calculation), if one can completely fill the $52K-wide tier, the marginal rate due to IRMAA alone is $65.90 * 12 * 2 / $52K = 3%, as the second chart in the above wiki section also shows.

Thanks for the corrections!

 

[pb4uski]

Thanks for the corrections!

And thank you SevenUp for avoiding a lot of typing to say what you said.

 

[FiveDriver]

See The formula.

Some time spent volunteering for Tax-Aide or VITA might influence the "very easy" presumption.

I forgot to include any Capital Gains/Losses from stocks, MF, ETF's. And then factor in the Social Security last.

While I realize that some folks may not 'easily' reach the torpedo threshold, that is not the topic of this particular thread.

 

[Chuckanut]

The phrase “Tax Torpedo” is inherently inflammatory, IMO. It sounds like something a partisan hack would invent to describe the political opposition and get people angry enough to send in more contributions to some politician, or dress in funny clothing and demonstrate outside the government buildings carrying home made signs they picked up at the printers.

 

[TheWizard]

The $230.80 is the total premium, not the surcharge. From the linked source, the base rate is $164.90 so the surcharge is $230.80 - $164.90 = $65.90.

On the other hand, you wouldn't want to use total income in the denominator because that's an effective rate and you'd want to use a marginal rate. The Worth pushing through the Social Security hump and/or IRMAA cliffs? wiki section has some good illustrations.

The marginal rate for going $1 over the first IRMAA tier is ridiculously large, as happens with any tax "cliff". At best (and coincidental to the quoted calculation), if one can completely fill the $52K-wide tier, the marginal rate due to IRMAA alone is $65.90 * 12 * 2 / $52K = 3%, as the second chart in the above wiki section also shows.

I file my taxes as Single and determine my smallish Roth conversion amount each December nowadays based on two criteria:
1) to avoid going much over the top of the 24% Federal bracket
AND
2) to avoid getting too close to the next higher projected IRMAA threshold for two years hence.

For 2022 income, the next higher IRMAA tier threshold for me was projected to be a MAGI of $193,000, for 2024 IRMAA.
But the start of the 32% Federal bracket was a bit lower than that when including the standard deduction, so I went with that.

For this year, my IRMAA, based on 2021 MAGI computed in a similar manner, was $263.70/month for part B and $50.70 for part D, which comes out to $3772.80 for the year.

Note that this has nothing to do with the SS tax hump or any sort of tax torpedo.
I've been in this IRMAA tier pretty much since starting Medicare at 65 and expect to remain in it indefinitely, especially now that the tiers are adjusted for inflation each year...

 

[Car-Guy]

IMO, there are lot's of "countermeasures" to avoid/minimize the impact of the so called tax torpedo. To me, it's more of long tax planning and speed bumps than a torpedo. YMMV

Ex. we all knew it was coming, especially when we contributed to 401k's, IRA's, etc.

 

[RunningBum]

I had no idea there was a 49.95% rate hump and didn't believe it at first when I read about it here a few years ago.

 

[TheWizard]

I had no idea there was a 49.95% rate hump and didn't believe it at first when I read about it here a few years ago.

Whether it's a Hump or not depends on how you look at things.
Let's assume that 85% of SS income goes into your AGI for everybody, even low income folks who have no other income.
But then, we give a special Anti-poverty Tax Deduction to those folks on a sliding scale.
End result would be the same...