After decades of paying into Social Security through payroll taxes, it can be frustrating to learn that your benefits may be subject to income tax. However, while not everyone pays taxes on Social Security, a significant portion of recipients do.
The good news is there are strategies to minimize or avoid taxes on your benefits, helping you maximize your retirement income.
When Are Social Security Benefits Taxable?
The thresholds for taxable Social Security benefits are:
| Filing Status | Combined Income Threshold | Portion of Benefits Taxed |
|---|---|---|
| Single, income between $25K – $34K | Up to 50% of benefits taxable | |
| Single, income over $34K | Up to 85% of benefits taxable | |
| Married filing jointly, income between $32K – $44K | Up to 50% of benefits taxable | |
| Married filing jointly, income over $44K | Up to 85% of benefits taxable |
These thresholds were set by the 1983 Social Security Amendments and have not been adjusted for inflation, meaning more retirees are subject to taxes today than in the past.
Can You Avoid Paying Taxes on Social Security?
While you can’t entirely avoid taxes once you exceed the combined income limits, you can use strategies to minimize the portion of your Social Security benefits that are taxed. Here are some effective ways to reduce or avoid taxes on your Social Security benefits:
1. Delay Claiming Social Security Benefits
One way to reduce the taxation of Social Security benefits is by delaying the start of your benefits. If you can afford to wait until age 70, your benefits will increase by 8% per year past your full retirement age.
Delaying benefits means you won’t have taxable income from Social Security, and you’ll receive higher monthly payments later on.
2. Stop Working or Minimize Earned Income
Working in retirement can push your combined income above the thresholds, making your Social Security benefits taxable. If possible, reduce or stop working once you start claiming Social Security to keep your combined income below the taxable limits.
3. Use Roth Accounts for Withdrawals
Withdrawals from Roth IRAs or Roth 401(k)s are tax-free, as long as you meet certain conditions. These withdrawals don’t count toward your combined income, which can help keep your Social Security benefits tax-free.
If most of your retirement income comes from Roth accounts, you can avoid triggering taxes on your Social Security benefits.
4. Convert Traditional Retirement Accounts to Roth Accounts
Converting a traditional IRA or 401(k) to a Roth IRA can help reduce future taxable income. When you convert, you pay taxes upfront on the converted amount.
This strategy is most effective if done before you start receiving Social Security benefits. Once converted, future withdrawals from the Roth account will be tax-free and won’t count toward your combined income.
5. Utilize Qualified Charitable Distributions (QCDs)
Once you reach age 73, you’re required to take required minimum distributions (RMDs) from traditional retirement accounts. These withdrawals are taxable and count toward your combined income.
However, you can donate your RMDs directly to charity through a Qualified Charitable Distribution (QCD). By doing this, the RMD is excluded from your taxable income, allowing you to avoid additional taxes on Social Security.
- QCDs can begin at age 70½ and can be as much as $100,000 per year.
6. Look for Tax-Efficient Investments
Consider working with a financial advisor to choose tax-efficient investments that don’t count toward your combined income.
For instance, municipal bonds, often thought of as tax-free, can create nontaxable interest that still counts toward combined income, so they might not be the best option for avoiding Social Security taxes.
Other tax-efficient strategies, such as investing in low-turnover index funds or health savings accounts (HSAs), could be better suited.
7. Harvest Tax Losses
If you’ve experienced investment losses, you can sell those investments to offset gains and reduce your taxable income.
Known as tax-loss harvesting, this strategy can reduce your taxable income by up to $3,000 per year. By lowering your income, you can avoid pushing your combined income above the threshold for Social Security taxation.
8. Live Frugally and Reduce Withdrawals
Living a more frugal lifestyle can reduce the need to withdraw large sums from your retirement accounts.
By withdrawing less from taxable accounts, you can reduce your combined income and lower the chances of your Social Security benefits being taxed.
When Is Social Security Not Taxable?
To avoid paying any taxes on your Social Security benefits, your combined income must be below:
- $25,000 for single filers.
- $32,000 for married filers filing jointly.
If your income is below these limits, your benefits will not be taxed.
Should You Avoid Paying Taxes on Social Security?
While reducing taxes is important, don’t let tax avoidance dictate all your financial decisions.
As financial analyst Mark Luscombe advises, “Never let the tax tail wag the investment dog.” Focus on a strategy that supports your overall retirement goals, including sustainable income and growth.
Additionally, Social Security benefits are not automatically taxed. If you expect to owe taxes, you can set up voluntary tax withholding by contacting the Social Security Administration. This will help you avoid a surprise tax bill at the end of the year.
Paying taxes on Social Security benefits can be frustrating, but there are several strategies you can use to minimize the amount you owe.
By carefully managing your retirement income sources, considering Roth conversions, and leveraging tax-efficient withdrawals, you can reduce or even avoid taxes on your benefits.
Keep in mind that maintaining a balanced, tax-aware investment strategy will help you achieve your long-term retirement goals.
FAQs
When are Social Security benefits taxable?
Social Security is taxable when your combined income exceeds $25,000 for singles or $32,000 for married couples.
How can I avoid taxes on Social Security?
You can minimize taxes by delaying benefits, using Roth withdrawals, or reducing earned income.
What is a Roth IRA conversion?
Converting a traditional IRA to a Roth IRA involves paying taxes now to avoid taxes later, including on Social Security.
Are RMDs taxable?
Yes, RMDs from traditional retirement accounts are taxable and count toward your combined income.
Can charitable donations reduce Social Security taxes?
Yes, making Qualified Charitable Distributions (QCDs) from your RMD can reduce your taxable income.
