Tax Rate on Social Security

[Tiger8693]

I can see SS threshold being changed. I don't think SS should be tax exempt no matter what your income level. I knew I would be at 85% once I claimed for the rest of my life. However I think it should be tax exempt for all states income tax. Our state exempts but I think it's crappy that others have to pay

Just curious. Why do you think SS should NOT be tax exempt for Federal, but SHOULD be tax exempt for all State taxes?

 

[pb4uski]

I can see SS threshold being changed. I don't think SS should be tax exempt no matter what your income level. I knew I would be at 85% once I claimed for the rest of my life. However I think it should be tax exempt for all states income tax. Our state exempts but I think it's crappy that others have to pay

Just curious. Why do you think SS should NOT be tax exempt for Federal, but SHOULD be tax exempt for all State taxes?

+1, if anything it should be the same as federal.... states exempt SS income to try to retain people and be more competitive with low/no tax states... a race to the bottom.

An interesting exercise. Take your SS statement and go to page 3... near the middle of the page it will say "Estimated taxes paid for Social Security... You paid $xxx,xxx. Take that amount and divided it by the amount shown on the frount page upper right where it says "Your payment would be about $x,xxx per month" and then divide that by 12.

Mine is less than 4 years. So after the first 4 years I have been paid back everything that I put in... 7 3/4 years if I include both my contributions and employers' contributions.

 

[Cut-Throat]

An interesting exercise. Take your SS statement and go to page 3... near the middle of the page it will say "Estimated taxes paid for Social Security... You paid $xxx,xxx. Take that amount and divided it by the amount shown on the frount page upper right where it says "Your payment would be about $x,xxx per month" and then divide that by 12.

Mine is less than 4 years. So after the first 4 years I have been paid back everything that I put in... 7 3/4 years if I include both my contributions and employers' contributions.

Why is this any more interesting than someone who works 40 years and keels over at age 60, and does not get to withdraw anything from Social Security?

 

[jldavid47]

+1, if anything it should be the same as federal.... states exempt SS income to try to retain people and be more competitive with low/no tax states... a race to the bottom.

Nah. They do it for the same reasons they do anything else: To buy votes.

 

[HarveyS]

An interesting exercise. Take your SS statement and go to page 3... near the middle of the page it will say "Estimated taxes paid for Social Security... You paid $xxx,xxx. Take that amount and divided it by the amount shown on the front page upper right where it says "Your payment would be about $x,xxx per month" and then divide that by 12.

Mine is less than 4 years. So after the first 4 years I have been paid back everything that I put in... 7 3/4 years if I include both my contributions and employers' contributions.

OK. But it was paid in over 25-40 years. What if those contributions were invested in an IRA?
Said differently, if you give me $417/month starting today (for 40 years) (($417*40*12=$200,000)), I will gladly give you back $4166/mo for the rest of your life (starting in 40 years). (($4,166 = $200,000/4 years/12 months/year)).

At a 6% compounded return, the payout is just the earnings on what you put in. I'll keep the principal when you pass.

And this is just on the employee portion, not the employer portion. I could use that for the widows and orphans.

 

[NXR7]

Do you do your own taxes? I just created a new return in TurboTax for 2018 and entered in what I knew my SS and pension would be and guessed on my pre-tax savings withdrawals. My combined federal/state should be about 11%. That was inline with what my investment rep told me that his retired clients pay.

As a bonus, Ohio has city income taxes. I pay another 3.5% on top of federal and state. Because city income tax is only on earned income, I suddenly got another 3.5% tax cut I did not initially plan on.

Ray

 

[VanWinkle]

+1, if anything it should be the same as federal.... states exempt SS income to try to retain people and be more competitive with low/no tax states... a race to the bottom.

An interesting exercise. Take your SS statement and go to page 3... near the middle of the page it will say "Estimated taxes paid for Social Security... You paid $xxx,xxx. Take that amount and divided it by the amount shown on the frount page upper right where it says "Your payment would be about $x,xxx per month" and then divide that by 12.

Mine is less than 4 years. So after the first 4 years I have been paid back everything that I put in... 7 3/4 years if I include both my contributions and employers' contributions.

SS is an Insurance plan, not a savings account. If your house burns down, would you feel guilty because you had only paid in 4 years of premium to the Insurance company? If it was a savings plan, the compounding of investment over 40 years might be closer to your payout than you think. And remember the mortality credits!!

 

[pb4uski]

OK. But it was paid in over 25-40 years. What if those contributions were invested in an IRA?
Said differently, if you give me $417/month starting today (for 40 years) (($417*40*12=$200,000)), I will gladly give you back $4166/mo for the rest of your life (starting in 40 years). (($4,166 = $200,000/4 years/12 months/year)).

At a 6% compounded return, the payout is just the earnings on what you put in. I'll keep the principal when you pass.

And this is just on the employee portion, not the employer portion. I could use that for the widows and orphans.

Not sure where you are getting your numbers... especially the $417/month.

I know for my numbers, if I look at 80% of my actual year by year SS (assumes that 20% relates to life and disability benefits and 80% relates to pension benefits) and the premium of a CPI adjusted life annuity equal to my PIA at my FRA, the IRR is 8.0% using only my contributions and 5.4% if I include employer contributions.

At 100% of SS tax rather than 80%, the IRRs are 4.5% for my contribution only and 7.2% for both my contributions and employer contributions.... but I think 80% is more relvant given that the SS taxes that I paid included life and disability coverage in addition to retirement benefits.

And my IRRs are worse than average because I was a high earner so my benefit is less compared to what I paid in than the average earner.

Interestingly, 5.4% is also the average annual return of bonds from 1926 to 2017.

The think we would agree that much of the benefits that I receive are from compounded interest... which is why I believe that it is fair to tax up to 85% of my benefits.... 15% relates to my contributions and 85% from compounded interest.

 

[pb4uski]

SS is an Insurance plan, not a savings account. If your house burns down, would you feel guilty because you had only paid in 4 years of premium to the Insurance company? If it was a savings plan, the compounding of investment over 40 years might be closer to your payout than you think. And remember the mortality credits!!

It's actually three things... life insurance, disability insurance and retirement benefit insurance.... but the vast majority is retirement benefits.

 

[VanWinkle]

It's actually three things... life insurance, disability insurance and retirement benefit insurance.... but the vast majority is retirement benefits.

I agree with you on this, but then why use the premiums paid into the plan to determine why the benefit should be taxed in a way that never adjusts for inflation?

If you feel the taxation method of SS is fair, we will just have to disagree.

 

[pb4uski]

.... If you feel the taxation method of SS is fair, we will just have to disagree.

I guess I'd like to know why you think the taxation of SS is unfair.

I feel it is fair because it is roughly the same as if you had used after-tax dollars to buy a deferred annuity... making periodic payments during your working years and then receiving annuity benefits in retirement. The portion that relates to your contributions that you were previously taxed on would not be taxable and the portion of the annuity benefits relating to interest/growth would be taxable. Another analogy would be a non-deductible IRA... funded with after-tax money and the portion of withdrawals representing interest/growth is taxable but the portion representing the return of your contributions is not taxed. I don't understand why SS retirment benefits should be taxed differently. If you work out the math based on SS taxes that you paid and benefits you receive, it is roughly 85% that would be taxable.

For those folks who have lower income and 50% or 0% of their SS is taxable, they are getting a break compared to if they had the same dollars going into a deferred annuity with benefits equal their SS retirement benefit or a non-deductible IRA.... and that tax break is fine with me.

While I understand that the income hurdle isn't inflation adjusted, that is a bit of a moot point in that once you are over the hurdle the taxable portion is set at 85% and 85% broadly approximates the taxable portion of a deferred annuity with similar economics.

 

[VanWinkle]

I guess I'd like to know why you think the taxation of SS is unfair.

I feel it is fair because it is roughly the same as if you had used after-tax dollars to buy a deferred annuity... making periodic payments during your working years and then receiving annuity benefits in retirement. The portion that relates to your contributions that you were previously taxed on would not be taxable and the portion of the annuity benefits relating to interest/growth would be taxable. Another analogy would be a non-deductible IRA... funded with after-tax money and the portion of withdrawals representing interest/growth is taxable but the portion representing the return of your contributions is not taxed. I don't understand why SS retirment benefits should be taxed differently. If you work out the math based on SS taxes that you paid and benefits you receive, it is roughly 85% that would be taxabl

For those folks who have lower income and 50% or 0% of their SS is taxable, they are getting a break compared to if they had the same dollars going into a deferred annuity with benefits equal their SS retirement benefit or a non-deductible IRA.... and that tax break is fine with me.

While I understand that the income hurdle isn't inflation adjusted, that is a bit of a moot point in that once you are over the hurdle the taxable portion is set at 85% and 85% broadly approximates the taxable portion of a deferred annuity with similar economics.

Tax table from 1984- https://www.tax-brackets.org/federaltaxtable/1984

The MFJ tax brkt to reach 44,000 (85% of SS taxable) is in the 42% tax brkt.

The law was clearly written to tax the benefits of the "wealthy" and was sold to the public in that manner.

With no inflation guard, people in the 12% tax brkt are now considered the "wealthy" and are subject to the 85% taxation of SS benefits.

If we were to stick with the 35% plus brkt now, MFJ would be for those over 400,000 to be paying tax on 85% of SS.

https://www.nerdwallet.com/blog/taxes/federal-income-tax-brackets/

The intent of the law has changed due to no inflation adjustment for income.
Now even the lower income households are paying tax on their SS.

 

[athena53]

Just curious. Why do you think SS should NOT be tax exempt for Federal, but SHOULD be tax exempt for all State taxes?

The reason they started taxing SS was to beef up the finances of the SS system. Well, at least that's what they said.

I live in one of the 13 states that include the taxable portion of SS in your state taxable income. Do state taxes on that amount go to support SS? No, it's a windfall to the state, pure and simple. When I lived in KS they had some sort of exemption but it phased out pretty quickly at higher income levels and it never applied to me or to DH. I now live in MO and they also tax SS.

 

[albundyz]

Last year, my wife and I both took SS starting in January. I wanted to know how this would impact the total income tax we paid. I went to Google and entered "income tax calculator". Several choices came up. I used the HR Block estimator and also the Turbo Tax estimator to double check. both came up with the same answer. In the prior year, we took $85K from my IRA to live on. All taxable, we took standard deduction. With SS, we took $40K from IRA and $45K from SS (same total income). The calculators gave us the answers we wanted. Our total income tax was reduced substantially, esp cuz California does not tax SS
*********
FWIW, I enjoy filling out all those crazy IRS forms. I normally can figure out "how" and "why" we are multiplying line 9 by 3 and subtracting from line 7. I found the IRS form for calculating tax on SS to be beyond a normal person's ability to understand the form. Hence, I let the income tax calculator from HR Block do it for me.

 

[pb4uski]

.... With no inflation guard, people in the 12% tax brkt are now [-]considered the "wealthy" and are[/-] subject to the 85% taxation of SS benefits. ...

To me, wealthy or not has nothing to do with it. If someone had a non-deductible IRA or deferred pension annuity that they had funded over their working career and were now withdrawing or receiving benefits, about 85% of those benefits would be taxable. I don't understand why anyone would think that social security should be any different. In all 3 cases it is simply taxing growth that you have not previously been taxed on... after all.... it is called an income tax.

My take is that not inflating the hurdle was intentional.. it was a way of taxing benefits the way they probably should have been from the beginning but in a way that avoided the political fight and turmoil that would have occurred if it had been done more directly. Smart.

 

[athena53]

To me, wealthy or not has nothing to do with it. If someone had a non-deductible IRA or deferred pension annuity that they had funded over their working career and were now withdrawing or receiving benefits, about 85% of those benefits would be taxable.

If I use a long-term rate of return of 6%, $1 invested 30 years ago would be worth $5.74 now so yes, 83% of that (4.74/5.74) is investment income. That ratio becomes MUCH smaller for amounts paid into SS in my later working years and those were my highest earning years, of course. So, assuming that 85% of SS is from investment returns on contributions is a huge overstatement.

 

[Chuckanut]

Here in California there is no state tax on ss income.

.

QUIET!!!!! Somebody in Sacramento may hear you!

 

[CRLLS]

To me, wealthy or not has nothing to do with it. If someone had a non-deductible IRA or deferred pension annuity that they had funded over their working career and were now withdrawing or receiving benefits, about 85% of those benefits would be taxable. I don't understand why anyone would think that social security should be any different. In all 3 cases it is simply taxing growth that you have not previously been taxed on... after all.... it is called an income tax.

My take is that not inflating the hurdle was intentional.. it was a way of taxing benefits the way they probably should have been from the beginning but in a way that avoided the political fight and turmoil that would have occurred if it had been done more directly. Smart.

I for one, think it should be not taxed. My reasoning is: it is just plain silly to disburse money as benefits all year long and then at the end of the year, take it back. My understanding is that taxes on SS income go back into the SS trust fund. When SS taxation was enacted, it was simple slight of hand to make it look like they didn't reduce benefits for the "wealthy". Income tax on SS is unlike pensions etc. where those tax dollars go into the general fund.

From: https://www.incharge.org/financial-literacy/where-do-my-social-security-tax-dollars-go/

Many people wonder where their Social Security tax dollars go. Generally, out of every dollar you pay in Social Security taxes:
72 cents goes to a trust fund that pays monthly benefits to retirees and their families. That works out to an average monthly benefit of $1,369 or $16,428 a year.
16 cents goes to disabled benefits. The average monthly payment there was $1,172.
9 cents goes to survivor benefits The survivor benefits supplemented the income of spouses and children of deceased workers. They come in handy, since the SSA estimates that one in eight adults in their 20s today will die before reaching retirement age.
Less than 1 cent goes to pay for administrative costs.

If as you say, it really should be taxed, (I'm not advocating that) then everyone should be reporting 100% of their SS benefits as income on their taxes and their taxes paid at the end of the year depends on the same things that other income does.

 

[jcgc50]

I am trying to estimate what my taxes will be on my social security benefits.
I was playing around in the Flexible Retirement Planner and my plan had a 99% success rate. Then I realized that I hadn't factored in taxes on SS. I made a wild guess at 50% of my benefits would be taxed. My success rate went down to 13%..... WOW!!

How can I get a better estimate on how much of my SS will be taxed and at what rate?

This is depressing...

I just did this today using this tool and it worked well. https://www.mortgagecalculator.org/calcs/1040-calculator.php

 

[pb4uski]

I for one, think it should be not taxed. My reasoning is: it is just plain silly to disburse money as benefits all year long and then at the end of the year, take it back. My understanding is that taxes on SS income go back into the SS trust fund. When SS taxation was enacted, it was simple slight of hand to make it look like they didn't reduce benefits for the "wealthy". Income tax on SS is unlike pensions etc. where those tax dollars go into the general fund. ...

On the first part, as a practical matter they have no idea what other sources of income you have and how much of your SS benefit will be taxable and what tax bracket you are in so paying it to you and having you do that for them when you file your tax return is the only practical way to do it.

Whether the tax ends up going back to the SS trust fund or the general fund isn't relevant to whether or not it should be taxed... what is relevant is by comparison to similar things like contributory pension plan benefits, deferred annuity in payout phase benefits, non-deductible IRA withdrawals and the like.

Your call it sleight of hand to tax SS benefits is my fixing an oversight to never have them taxed like contributory pensions, deferred annuities in payout phase, etc. to begin with.

The first Social Security benefits were paid in 1940. From that time until 1984, benefits were exempt from federal income tax, as authorized by Treasury Department rulings issued in 1938 and 1941 (SSA n.d.). Because other forms of retirement income (such as private- and public-sector pensions) were subject to income tax, policymakers eventually reconsidered the tax exemption for Social Security benefits. Both the 1979 Advisory Council on Social Security (1979) and the National Commission on Social Security Reform (1983) recommended that some Social Security benefits be included in taxable income. ....

.... When the 1983 amendments went into effect, about 8 percent of beneficiary families were required to pay income tax on part of their Social Security benefits (House Ways and Means Committee 2004). That percentage has increased over time because the 1983 amendments set the thresholds for taxation of benefits in nominal dollars, rather than indexing them to price or wage changes in the national economy. By 1993, an estimated 20 percent of beneficiary families paid income tax on part of their benefits (Pattison and Harrington 1993). Subsequent estimates by the Congressional Budget Office (CBO) put the percentage of beneficiaries paying income tax on their benefits at 25 percent in 1997, 32 percent in 2000, and 39 percent in 2003. More recently, CBO estimated that 49 percent of Social Security beneficiaries paid income tax on their benefits in 2014

https://www.ssa.gov/policy/docs/issuepapers/ip2015-02.html

....If as you say, it really should be taxed, (I'm not advocating that) then everyone should be reporting 100% of their SS benefits as income on their taxes and their taxes paid at the end of the year depends on the same things that other income does.

The 85% rather than 100% is a proxy in lieu of a person-by-person analysis of contributions that were previously taxed income in comparison to benefits received... they could do the latter but would introduce added complexity into the taxation of SS. The 0% and 50% levels are a tax break for lower income recipients which is fine with me.

 

[athena53]

Well, this was a bit of a surprise. I have my SS records and if I accumulate contributions at 6%, the amount my employers and I put in DOES amount to about 15% of total. So, I guess the 85% assumption makes sense if you think of it as taxation on the investment income, with the other 15% being a "return of principal".

I still think the states should keep their cotton-pickin' hands off of it and that the income thresholds for taxation of SS should be indexed.

 

[Perryinva]

Well sure you do. Most people always want as much as they can get, whether it makes sense or is sustainable or not. I think I should win the lottery regularly. Almost the same, IMHO.

 

[VanWinkle]

Well sure you. Most people always want as much as they can get, whether it makes sense or is sustainable or not. I think I should win the lottery regularly. Almost the same, IMHO.

Not sure I follow the correlation between winning the lottery and Tax rates
on Social Security. People on 1400 per month SS are not going to feel like they won the lottery if they get a small tax break. Maybe I misunderstood your point.

VW

 

[Midpack]

Well, this was a bit of a surprise. I have my SS records and if I accumulate contributions at 6%, the amount my employers and I put in DOES amount to about 15% of total. So, I guess the 85% assumption makes sense if you think of it as taxation on the investment income, with the other 15% being a "return of principal".

I still think the states should keep their cotton-pickin' hands off of it and that the income thresholds for taxation of SS should be indexed.

And how would you (and like minded individuals) offset the revenue loss for your state and federal spending? Most states and our federal government already have deficits for miles, past and future. And the myopic “tax the wealthy and corporations” isn’t an answer. How much more do you want your/our kids and grandkids to pay so seniors “can have theirs?”

 

[Sunset]

I wasn't quoting anyone, just emphasizing that what I thought was a reduction in benefit as being 'the tax'.

Before reading this thread I honestly thought ones SS benefit was reduced by up to 85% based on ones income. I figured that the Fed Gov would consider one who has income from other sources would not need as much SS so it would be reduced.

This actually would be good and fair way for those who really need it and help the fund last for more years before going broke.

So besides not understanding how SS is taxed.
You also do not understand that SS will NOT go broke, at worst it will be reduced to about 75% of current projections.

Please educate yourself more on SS, as you will find the knowledge helpful when it comes time to apply for SS.