42 States Don’t Tax Social Security, but Up to 85% of Your Benefits Can Still Be Taxed
You paid into Social Security with every paycheck, but collecting those benefits tax-free in retirement is far from guaranteed. A little-known federal rule could send a significant chunk of your monthly checks straight back to the IRS.
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The way Social Security is earned is by paying taxes on wages. There’s a cap set each year, but if you’re a moderate earner, you generally pay into Social Security out of every paycheck you receive.
You’d think that based on that, you’d be entitled to collect your monthly benefits in retirement without having them taxed. But that’s not automatically the case.
Even though most states do not impose taxes on Social Security, there are eight states that do. But even if you live in one of the 42 states without a tax on Social Security, you might still face federal taxes on up to 85% of your benefits due to a decades-old rule.
When taxes on Social Security apply
Social Security gets most of its revenue from payroll taxes. But taxes on benefits also help fund the program.
Not everyone has to pay federal taxes on Social Security. Whether you do depends on what your provisional income looks like.
Provisional income is the sum of your adjusted gross income, tax-exempt interest income, and 50% of your annual Social Security checks. If the total is under $25,000 and you file as a single taxpayer, or under $32,000 as a married joint filer, you shouldn’t have any of your benefits taxed.
Beyond these thresholds, taxes can apply. If you’re single with a provisional income of $25,000 to $34,000 or married filing jointly with a provisional income between $32,000 and $44,000, up to 50% of your benefits could be taxed.
Once your provisional income exceeds these limits, up to 85% of your Social Security checks could be taxed at the federal level. This doesn’t mean you’ll lose 85% of your benefits to taxes, but rather, that that amount is subject to taxes at your ordinary income tax rate.
So let’s say you’re single with a provisional income of $40,000, and your monthly Social Security benefit is $2,000. That means up to 85% of that, or up to $1,700, could be taxed. If your ordinary income tax rate is 22%, that means you could lose up to $374 a month to taxes on Social Security.
Plan ahead to minimize the tax hit
If you have a higher income in retirement, paying federal taxes on Social Security may be unavoidable. But there may still be steps you can take to lower your taxes in general.
Keeping at least some of your retirement savings in a Roth IRA is one way to minimize your taxes overall. If you’re nearing retirement with funds in a traditional retirement plan, you could try to do a Roth conversion.
Selling assets at a loss in a taxable brokerage account could also help you reduce your taxes in retirement. So can taking deductions strategically.
Of course, some people end up having to pay taxes on their Social Security benefits even with smart planning. If this happens, it isn’t a failure on your part.
If you end up facing taxes, it typically means your income is too high to get out of it completely. And in that situation, planning ahead of time could make those taxes a lot easier to work around.
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Maurie Backman has more than a decade of experience writing about financial topics, including retirement, investing, Social Security, and real estate. Her work has appeared on sites that include The Motley Fool, USA Today, U.S. News & World Report, The Washington Post, and Kiplinger.
Prior to becoming a full-time financial writer, Maurie worked in the financial industry trading distressed debt. She then changed course and spent a few years designing electronic toys. After a stint in content marketing and UX, she shifted back into writing and has since covered everything from the housing market to estate planning to Medicare.
When she's not busy writing, Maurie can be found hiking, walking her dogs, driving her kids to their various sports practices and games, and curling up with a good book. She cooks on occasion and bakes way too often.
