Why Are Social Security Benefits Taxable?
Whether you realize it or not,
But what you might be surprised to learn as a retired worker, or perhaps a future retiree, is that your Social Security benefit may be taxable. Why, you ask? That's not a simple answer, so let's dig into some of the history behind
The history behind the taxation of Social Security benefits
The path to taxing Social Security benefits begins all the way back in the 1970s. When the 1970s began, Social Security's trust fund ratio -- a measure of a year's projected costs that could be paid with funds available at the beginning of the year -- stood at a relatively healthy 103%. But things quickly went downhill as demographic changes took shape.
By 1975, the program was expending more than it was bringing in each year, a trend that would continue through 1982. By 1982, the trust fund ratio was down to a meager 15%. In other words, Social Security was running on fumes, and while the program can't go bankrupt, it was very close to a point where across-the-board benefit cuts would have needed to be instituted to maintain solvency. With so many Americans reliant on Social Security income to make ends meet, benefit cuts weren't viewed as a viable solvency option. Thus was introduced the last major bipartisan Social Security overhaul,
The Amendments of 1983 made a number of changes to the Social Security program, with each political party
However, one of the more controversial additions to the Amendments of 1983 was the introduction of taxing Social Security benefits, which was officially implemented in 1984. This tax, which was originally designed to only impact upper-income senior households, was introduced to help raise additional revenue and avoid having to cut retired-worker benefits.
Will you be taxed on your Social Security benefit?
The next question that typically comes to mind when you tell current or future retirees that Social Security benefits are taxable is, "Will my benefits be taxed? Right now, the answer is
In 1984, when the taxation of benefits was implemented, persons and couples filing jointly whose modified adjusted gross income (MAGI) plus one-half of benefits exceeded $25,000 and $32,000, respectively, were subject to the tax. In this instance, the tax meant that up to half of their Social Security benefits could face federal ordinary income tax rates.
Then, in 1993, a second tier of taxation was introduced under the Clinton administration. Using the same formula as above -- i.e., MAGI plus one-half of benefits -- single filers and couples filing jointly with more than $34,000 and $44,000, respectively, will be subjected to this second tier. This new tier allows up to 85% of Social Security benefits to be taxed at the federal ordinary income tax rate.
Now, here's the catch: These income thresholds
Sorry, folks, but the taxation of benefits is here to stay
To be crystal clear, there aren't many people that like this tax, as it's often viewed as a means of being double taxed (even though
The reason? Social Security is, once again, facing an imminent cash shortfall. Despite what looks to be a healthy trust fund ratio of 289% as of 2018, the Social Security Board of Trustees has forecast that the program's nearly $2.9 trillion in asset reserves will be completely gone by 2035. If Congress were to fail to act, this would lead to an
If lawmakers were to end the taxation of benefits, it could definitely lead to a modest boost in income for middle-class and upper-income retired individuals and couples. However, it would be
Worse yet, adjusting these income thresholds for inflation is off the table, too. With the program needing as much income as possible to thwart/stall what looks to be an inevitable cash shortfall over the long run, reducing the income received from taxing benefits by adjusting these thresholds isn't an option lawmakers are seriously considering right now.
Despite being a hated tax, the taxation of Social Security benefits isn't going anywhere.
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