Most people are unaware their social security benefits can be taxed and how high the tax can be. Seniors today can be in the highest marginal tax bracket. Maybe it’s because they don’t fully understand the effect of these taxes. Fortunately through proper retirement planning either some or all of these taxes can be eliminated based on a person’s situation.
- If you are a married couple and your calculated income is over $44,500, then 85% of your social security income will be taxable.
- If your calculated income is $33,000 to $44,500, then 50% of your social security income will be taxable.
Let’s use Joe and Jane Jones as an example of a married couple with a calculated income of more than $45,000.
The Jones’s annual income need is $40,000 and they currently have combined social security benefits of $20,000 annually, $22,500 in annual pensions and investments that are paying them 5%. Their taxable investment, such as a CD or mutual fund, is valued at $350,000 and the interest they receive is $17,500 annually.
The example totals all come out to a $60,000 (20,000 + 22,500 + 17,500).
The IRS calculates your taxable social security, by take all your income sources (except Roth IRA’s) plus half of your social security benefits. The Jones will have a $50,000 calculated income (pension income of $22,500 + $17,500 interest + half of social security benefits at $10,000).
As they’re above the $44,500 mark, their total income would be $60,000 with $58,500 being taxable.
In this example, the Jones are paying taxes on the interest that they do not need and are not using. If they transferred their taxable investment into a safe money fixed annuity, they would receive an immediate tax deferral from that point forward, therefore reducing taxes.
Let’s look at their tax situation again, this time by utilizing a fixed annuity.
The Jones would have the same $20,000 in social security benefits and the same $22,000 in pension benefits. Now, let’s assume the annuity is earning the same 5%. This would give them the same $17,500 of interest, but the difference would be that it is deferred, not taxable in the year it is earned.
In addition, their total income and interest would still be $60,000, but their calculated base for social security would be $32,500 ($22,500 from pensions + half of social security benefits at $10,000). Since this would be below the social security base, then none of their social security income would be taxed.
Of the $60,000 of interest and income, they would only be paying taxes on $22,500 of pension benefits. This is a reduction in taxable income of 62% ($58,500–$22,500/$58,500).
Reducing tax waste is the basis of retirement planning.
To see how this strategy could work for you, please give us a call at 417-319-5945 or send us an email: [email protected].