Social Security Taxes and the 5 Ways To Bypass or Lower Them

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Social Security income might seem like your just reward for a lifetime of contributing to the program through payroll taxes, but that doesn’t mean Uncle Sam won’t get his cut once you retire and start collecting benefits.

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Depending on your combined income in retirement, you might have to pay federal taxes on Social Security benefits. In this case, “combined income” is the total of your adjusted gross income (AGI), nontaxable interest and one-half of your Social Security benefits, as GOBankingRates recently reported. Here’s how it applies to federal taxes:

  • If you file a federal tax return as an individual and your combined annual income is between $25,000 and $34,000, you might have to pay income tax on up to 50% of your benefits. If your income is more than $34,000, up to 85% of your benefits might be taxable.
  • If you file a joint return and you and your spouse have a combined income of between $32,000 and $44,000, you might have to pay income tax on up to 50% of your benefits. If you earn more than $44,000, up to 85% of your benefits may be taxable.

In addition, 12 states tax Social Security benefits, according to AARP: Colorado, Connecticut, Kansas, Minnesota, Missouri, Montana, Nebraska, New Mexico, Rhode Island, Utah, Vermont and West Virginia.

If you want to lower or eliminate federal taxes on your Social Security income, there are a few ways to do so. Here’s a look at five of them.

Keep Your Income Down

This is the most straightforward way to completely bypass Social Security taxes — make sure you don’t exceed the income thresholds mentioned above. This also means you will have to depend almost solely on your Social Security benefits to pay the bills because withdrawals from pensions, 401(k) accounts and IRAs — as well as income from investments and interest from other accounts — all count toward your combined income.

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Withdraw from Tax-Free Roths

Tax-free qualified distributions from a Roth IRA or Roth 401(k) are not included in your AGI. This lowers your combined income and tax liability. A good strategy to avoid taxes in retirement is to roll over money from a traditional IRA or 401(k) to a Roth before you start receiving Social Security benefits. You will get a tax bill in the year of the conversion and might have to wait five years before you can withdraw the funds penalty-free, but after that you can tap into the account tax-free.

Withdraw from Retirement Accounts Before Signing Up for Social Security

One way to lower your combined income is to start taking withdrawals from IRAs and 401(k)s before you start collecting Social Security. You can begin taking penalty-free distributions as early as age 59 1/2 — and even 55 in some cases. Theoretically, you could withdraw all of your retirement account money before you start collecting Social Security, but that’s probably not the best long-term strategy if you want to live comfortably.

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Buy a Qualified Longevity Annuity Contract

Joint filers can invest up to $125,000 from your IRA or 401(k) in a qualified longevity annuity contract, or QLAC, which is a special version of a deferred-income annuity. Money in a QLAC does not count when figuring your required minimum distribution. This means you can reduce the size of your RMD and lower both your income and your tax bill. Payouts from a QLAC can be delayed as late as age 85, at which point they will be included in your taxable income.

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Steer Clear of Municipal Bonds

Municipal bond interest — which normally isn’t subject to income taxes — is included in the formula that determines whether you will pay taxes on your Social Security benefits, according to MoneyTalkNews. Avoiding munis can lower your combined income and help you avoid paying taxes on your benefits.

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About the Author

Vance Cariaga is a London-based writer, editor and journalist who previously held staff positions at Investor’s Business Daily, The Charlotte Business Journal and The Charlotte Observer. His work also appeared in Charlotte Magazine, Street & Smith’s Sports Business Journal and Business North Carolina magazine. He holds a B.A. in English from Appalachian State University and studied journalism at the University of South Carolina. His reporting earned awards from the North Carolina Press Association, the Green Eyeshade Awards and AlterNet. In addition to journalism, he has worked in banking, accounting and restaurant management. A native of North Carolina who also writes fiction, Vance’s short story, “Saint Christopher,” placed second in the 2019 Writer’s Digest Short Short Story Competition. Two of his short stories appear in With One Eye on the Cows, an anthology published by Ad Hoc Fiction in 2019. His debut novel, Voodoo Hideaway, was published in 2021 by Atmosphere Press.
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