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How Residents of Aliso Viejo and Laguna Niguel get taxed on Social Security?

Posted by James Burns | Apr 18, 2022

For most Americans, social security plays a significant part of their retirement strategy. However, very few people take out time to understand it or how to minimize taxes on it. A Majority of those who receive Social Security benefits pay income tax on up to half or even 85% of that money because their combined income from Social Security and other sources pushes them above the extremely low thresholds for taxes to kick in.[1]

But you can use strategies, before and after you retire, to limit the amount of tax that you pay on Social Security benefits. Keep reading to find out what you can do, starting today, to minimize the amount of income tax that you pay after retiring.

Key Take Issues

  • Up to 50% of Social Security income is taxable for individuals with a total gross income including Social Security of at least $25,000 or couples filing jointly with a combined gross income of at least $32,000.
  • Up to 85% of Social Security benefits are taxable for an individual with a combined gross income of at least $34,000 or a couple filing jointly with a combined gross income of at least $44,000.[2]
  • Retirees who have little income other than Social Security will not be taxed on their benefits. In fact, you may not even have to file a return.
  • Your focus should be on paying less in overall taxes on your combined income.
  • A tax-advantaged retirement account, such as a Roth IRA, can help

Married Tax Rates

For couples who file a joint return, your benefits will be taxable if you and your spouse have a combined income as follows:[3]

  • From $32,000 to $44,000:You may have to pay income tax on up to 50% of your benefits.
  • More than $44,000: Up to 85% of your benefits may be taxable.

For example, say you are a semiretired couple filing jointly and have a combined Social Security benefit of $26,000. You also had $30,000 in combined “other” income. Add the two together, and you have a gross income of $56,000, or $43,000 in combined income (other income plus half of your Social Security benefits). This combined income falls in the $32,000–$44,000 range, meaning that half the difference between the income and the threshold is computed at 50% to get your amount taxable: ($43,000-32,000 = $11,000; $11,000/2 = $5,500).

State Taxes on Social Security

Twelve states tax Social Security benefits. If you live in one of those states—Colorado, Connecticut, Kansas, Minnesota, Missouri, Montana, Nebraska, New Mexico, Rhode Island, Utah, Vermont, or West Virginia—check with your state tax agency. As with the federal tax, how these agencies tax Social Security varies by income and other criteria.

You should get a Social Security Benefit Statement (Form SSA-1099) each January detailing the benefits that you received during the previous tax year. You can use it to determine whether you owe federal income tax on your benefits[4]. The information is available online if you enroll on the Social Security website.

If you owe taxes on your Social Security benefits, you can make quarterly estimated tax payments to the IRS or have federal taxes withheld from your payouts before you receive them.[5]

Possible Ways to Avoid Taxes on Benefits

Keep Some Retirement Income in Roth Accounts

Contributions to a Roth IRA or Roth 401(k) are made with after-tax dollars. This means that they are not subject to taxation when the funds are withdrawn. Thus, the distributions from your Roth IRA are tax-free—if they are taken after you turn age 59½ and have had the account for five or more years. The Roth payout will not affect your taxable income calculation and will not increase the tax that you owe on your Social Security benefits. Distributions taken from a traditional IRA or traditional 401(k) plan, on the other hand, are taxable.

The Roth advantage makes it wise to consider a mix of regular and Roth retirement accounts well before retirement age. The blend will give you greater flexibility to manage the withdrawals from each account and minimize the taxes that you owe on your Social Security benefits. A similar effect can be achieved by managing your withdrawals from conventional savings, money market accounts, or tax-sheltered accounts.

Buy an Annuity Contract

A qualified longevity annuity contract (QLAC) is a deferred annuity funded with an investment from a qualified retirement plan or an IRA. QLACs provide monthly payments for life and are shielded from stock market downturns. If the annuity complies with IRS requirements, it is exempt from the RMD (Required Mandatory Distributions) rules until payouts begin after the specified annuity starting date.

By limiting distributions—and thus taxable income—during retirement, QLACs can help minimize the tax bite taken from your Social Security benefits. Under the current rules, an individual can spend 25% or $135,000 (whichever is less) of a retirement savings account or an IRA to buy a QLAC with a single premium. The longer an individual lives, the longer the QLAC pays out.

QLAC income can be deferred until age 85. A spouse or someone else can be a joint annuitant, meaning that both named individuals are covered regardless of how long they live.

Keep in mind that a QLAC should not be bought just to minimize taxes on Social Security benefits. Retirement annuities have advantages and disadvantages that should be weighed carefully, preferably with help from a retirement advisor.

Bottom Line

Consider investing some of your retirement savings in a Roth account to shield your withdrawals from income tax. Take out some retirement money after age 59½ but before you retire, to take care of the taxes before you need the money. And talk to a financial planner about how a retirement annuity might work to your advantage.

[1] Social Security Administration. “Retirement Benefits: Income Taxes and Your Social Security Benefit

[2] Social Security Administration. “Retirement Benefits: Income Taxes and Your Social Security Benefit

[3] Social Security Administration. “Retirement Benefits: Income Taxes and Your Social Security Benefit

[4] You should get a Social Security Benefit Statement (Form SSA-1099)

[5] Social Security Administration. “Retirement Benefits: Income Taxes and Your Social Security Benefit

About the Author

James Burns

Estate Planning, Asset Protection, Business and Real Estate Transactions, nutraceutical Law and franchising: