Social Security Matters: Ask Rusty – About the earnings test and taxation of Social Security benefits

Published 8:02 am Thursday, April 21, 2022

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By AMAC Certified Social Security Advisor Russell Gloor, Association of Mature American Citizens

Dear Rusty: I’m 63, married and we file a joint tax return. If I claim Social Security now and keep working and earn $7,000 more per year than the annual limit of $19,560, I know I’d have benefits withheld at the rate of $1 for every $2 over the limit ($3,500). But if I were to contribute $7,000 to a conventional (not Roth) IRA and take the deduction, would this reduce my earned income and eliminate the Social Security benefit withholding? And will such an IRA deduction help avoid taxation of my Social Security benefits if I am above the $32,000 taxation threshold for married – filing jointly? I’m trying to figure how much I can afford to earn while collecting Social Security benefits. Signed: Searching for Ways

Dear Searching: Contributions to an IRA will not reduce the income tax liability on your Social Security benefits. Taxation of Social Security benefits is determined using something known as modified adjusted gross income (MAGI), which is your normal AGI on your tax return, plus 50% of the Social Security benefits you received during the tax year, plus any other non-taxable income you had (which would include contributions to your IRA). As you know, MAGI over $32,000 will cause 50% of your SS benefits received during the tax year to become taxable, but MAGI over $44,000 will up that percentage to as much as 85% of Social Security benefits received during the tax year (taxed at your normal IRS tax rate).

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For the Social Security earnings limit, which applies to anyone collecting early benefits, your gross income from working is what counts so contributing to an IRA won’t reduce the amount you exceed the limit by – they will use your gross W2 amount, not the adjusted gross income (AGI) from your tax return.

FYI, the 2022 annual earnings limit is $19,560 and if that is exceeded, you’ll pay the penalty ($1 for every $2 over). But claiming mid-year, you’ll also be subject to a 2022 monthly limit of $1630 and, if that is exceeded, you aren’t entitled to Social Security benefits for that month (the monthly limit will only apply for the remaining months of 2022). What will happen is Social Security will compute the penalty both ways and see which is greater – the one for exceeding the annual limit or the one for exceeding the monthly limit – and they will assess whichever penalty is smaller. As you may know, the earnings limit goes up by about 2.5 times during the year you reach your full retirement age (FRA) and goes away entirely starting in the month you attain FRA.

But there’s something to be aware of also: If you have benefits withheld because you exceeded the earnings limit, when you reach your full retirement age you will be given time credit for the months benefits were withheld, meaning that they will increase your FRA benefit amount according to the number of months you didn’t get benefits before that. So, at least theoretically, you can eventually recover the benefits withheld for exceeding the earnings limit by getting a higher benefit payment starting at your full retirement age. But income tax on Social Security benefits is different – there is no age cap for assessing federal income tax on your Social Security benefits.