The “Social Security Penalty” can refer to two different issues that come to my mind as a CPA. In this post I will address the penalty related to taxable income on your tax return and also the consequences of additional income on your social security benefits. First, we will address how social security benefits become taxable on your US Income Tax Return.
Social Security Income and Your Income Tax Return:
Is it a good thing for your social security income to be taxable on your tax return? Didn’t you already pay tax on it once? Should you be required to pay any taxes once you reach a certain age? Of course most who feel they should not pay any tax after they reach a certain age also think that the wealthy like our buddy Warren Buffet should pay taxes on everything despite his age. The good news is that many do not have to pay income taxes after a certain age and many also do not need to file a tax return. Whether or not you have to file and or pay taxes is dependent on your taxable income. Are your social security benefits taxable income?
Are there situations where social security benefits are taxable to you? In most cases a person who only receives social security benefits or equivalent railroad retirement benefits will not be subject to US income tax and probably will not need to file a US Income Tax Return. However, individuals receiving income in addition to social security benefits may find that some of their social security benefits become taxable income.
Some of your social security benefits may be taxable if you receive other income and your modified adjusted gross income (MAGI) is more than the base amount for your filing status. In addition you may have to file a tax return if you receive other income even if your social security benefits are not taxable. To illustrate if an individual’s social security benefits are taxable, the 2010 base amount for an individual (someone filing as single, head of household, qualifying widow(er), or married filing separately and you lived apart from your spouse for all of 2010) was $25,000 and for a married couple filing a joint return it was $32,000. Your MAGI is calculated by taking your adjusted gross income (the bottom number on the first page of your form 1040) and adding nontaxable interest and 1/2 of your social security benefits (form SSA-1099 box 5). Note that your social security benefits in box 5 of SSA-1099 will likely be more than the amount you actually received so it is very important to use the actual form SSA-1099 rather than adding up your deposits. They are usually not the same (not so subtle reference here to a CPA pet peeve).
Based on the 2010 base amounts according to IRS publication 915:
For an individual with MAGI between 25,000 and $34,000 up to 50% of your social security benefits may be taxable.
For an individual with MAGI over $34,000 up to 85% of your social security benefits may be taxable.
For a couple filing a joint return with MAGI between $32,000 and $44,000 up to 50% of your social security benefits may be taxable.
For a couple filing a joint return with MAGI over $44,000 up to 85% of your social security benefits may be taxable.
If you are married and filing a separate return and you lived with your spouse at any time in 2009 up to 85% of your social security benefits may be taxable.”
There are some other situations where the above information does not apply. For the formula to calculate how much of your social security benefits are taxable refer to the IRS instructions for form 1040. Realize this post addresses how much of your social security benefits could be taxable income. How much tax you will owe is a different matter. Contact me to review your situation and figure out if you will likely pay taxes on your social security benefits.
As a side note, if you will owe taxes on your social security benefits you can have the Social Security Administration withhold taxes for you.
So does Warren Buffett pay taxes on his social security benefits? That depends on his tax situation just as your taxable income depends on your particular situation. For a consultation about your situation feel free to contact me at the phone number or email address listed below.
Effects of other income on your social security retirement benefits:
The other social security penalty refers to a reduction of your benefits because of other income earned. (This has nothing to do with your tax return and the service I provide but I am asked this question every year so I am addressing it.) According to the Social Security Administration, once you reach the Full Retirement Age other income has no effect on your social security benefits hence no penalty regarding the amount of your benefits. If you are under the full retirement age your earnings can reduce your social security benefits. If you were below the full retirement age for all of 2010 then your earnings over $14,160 result in a $1 reduction in social security benefits for each $2 earned over the $14,160. If you reached full retirement age in 2010 then you must subtract $1 of social security benefits for every $3 earned over $37,680 until the month you reach full retirement age.
Below are examples and a table from the SSA to help you figure your benefits:
“These examples show how the rules would affect you:
Let us say that you begin receiving Social Security benefits at age 62 in January 2010 and your payment is $600 per month ($7,200 for the year). During the year, you work and earn $20,480 ($6,320 above the $14,160 limit). We would withhold $3,160 of your Social Security benefits ($1 for every $2 you earn over the limit). To do this, we would withhold all benefit payments from January 2010 to June 2010. Beginning in July 2010, you would receive your $600 benefit and this amount would be paid to you each month for the remainder of the year. In January 2011, we will pay you the additional $440 we withheld in June 2010.
Or, let us say you were not yet full retirement age at the beginning of the year, but reach it in November 2010. You earned $39,000 in the 10 months from January through October. During this period, we would withhold $440 ($1 for every $3 you earn above the $37,680 limit). To do this, we would withhold your first check of the year. Beginning in February 2010, you will receive your $600 benefit, and this amount will be paid to you each month for the remainder of the year. We would pay you the remaining $160 dollars in January 2011.
The following table gives you an idea of how much you will receive in Social Security benefits for the year 2010, based on your monthly benefits and estimated earnings.
What income counts … and when do we count it?
If you work for someone else, only your wages count toward Social Security’s earnings limits. If you are self-employed, we count only your net earnings from self-employment. We do not count income such as other government benefits, investment earnings, interest, pensions, annuities and capital gains.
If you work for wages, income counts when it is earned, not when it is paid. If you have income that you earned in one year, but the payment was made in the following year, it should not be counted as earnings for the year you receive it. Some examples are accumulated sick or vacation pay and bonuses.
If you are self-employed, income counts when you receive it—not when you earn it—unless it is paid in a year after you become entitled to Social Security and earned before you became entitled.”
Does Warren Buffett get his social security benefits penalized? It depends on his situation, but I assume he has been past the full retirement age for awhile.
The social security penalty typically refers to one of these two issues addressed in this post. If you want help figuring your benefits you would be best off talking to the experts at the Social Security Administration. To discuss your situation and the US income tax consequences feel free to contact me at the number below. Keep in mind that the IRS and the Social Security Administration keep changing their guidelines and I do not constantly update these posts. Also there are so many possibilities in life that these posts can not cover them all. So keep in mind these posts are of a general nature and not meant to address your specific situation but my goal is to provide you with useful and sometimes entertaining content. You are advised not to take action based on these posts but hopefully they gave you cause to consider your or a family member or close friend’s situation and now you can look further into the situation and talk to me and or other professionals about the specifics and your goals in order to formulate your plans and expectations.
For assistance from a CPA to prepare your tax returns or estimate your tax on your social security benefits give call me or email me today at:
Jeff Haywood, CPA
I prepare the following types of tax returns:
Federal and State Returns
Also, I am available for tax planning and discussions about business, retirement planning and life goals.
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As always keep in mind that the content provide on this site is general in nature and may or may not apply to your particular case. It is best to check with a tax professional about your circumstances and what is best for you personally. Also, IRS regulations and tax laws are constantly changing and the information on this site is not constantly updated. Again please check with me about your particular circumstances and what will be best in your situation at the given time and law.
This article was written by Jeff Haywood, CPA.
Jeff is a licensed CPA in both Texas and Illinois.
He has prepared income tax returns for the public for over 10 years.
He also has an MBA in Finance from Loyola University in Chicago and he has 24 years experience in Corporate Finance and Business Analysis.