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3 Things Advisors Should Know About Social Security and Taxes

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The Social Security Act was signed into law more than 85 years ago. While the fundamentals and foundation of the program have remained intact, there have been numerous changes to the program over time. 

More than 2,700 rules govern the Social Security program, which makes it nearly impossible to know every single thing about Social Security. Since you are a financial advisor, however, your clients likely expect you to have sufficient knowledge to answer their Social Security questions and guide their Social Security decisions.

The Social Security program and its rules are complex, but the more you learn, the better you are able to educate and serve your clients. A complex topic that is commonly overlooked is the taxation of Social Security benefits. Your knowledge and guidance on this topic will have a direct impact on your clients’ financial futures.

Here are three things you and your future retiree clients should know about Social Security and taxes.

1. Social Security income may be subject to federal, and possibly even state, taxation.

For almost 50 years after President Franklin D. Roosevelt signed the Social Security Act in 1935, Social Security income was not allowed to be federally taxed.

But in 1983, during Ronald Reagan’s presidency, a major bipartisan agreement made significant changes to the Social Security program. One of these changes was to allow a portion of Social Security benefits to be subject to federal taxation.

Even today, your clients may be unaware that their Social Security income may be taxed. 

Federal taxation does not apply to all Social Security beneficiaries. A formula is used to determine if one’s Social Security income will be taxed. This determination is dependent on their combined income, also known as provisional income.

Combined income equals 100% of adjusted gross income (AGI) plus 50% of Social Security income plus 100% of tax-exempt interest.

If their combined income exceeds specific threshold amounts, a portion (up to 85%) of their Social Security income will be taxed. These threshold amounts vary depending on if they are a single or joint filer.

When a retiree’s Social Security income is taxed, it is taxed at the same rate as all their other income.

In addition to federal taxation, there are currently 13 states that also tax Social Security benefits. Some of the states use the same calculation as the federal government to determine if and how much Social Security income is taxed, and others have their own regulations. 

Be sure to have your clients check with their tax professional to determine an appropriate federal and state tax withholding percentage to apply toward their benefits when they begin collecting.  

Of course, with many Social Security rules, taxation of benefits is not as simple as it may first appear.

2. The way Social Security income is taxed is confusing and can ‘creep up’ on you.

The IRS worksheet that determines if and how much of one’s Social Security is taxed is complicated and confusing, even to many tax and financial professionals. 

After establishing if one’s combined income exceeds the thresholds, there is then a three-way test to determine how much will be taxed.

Even though one’s combined income indicates that up to 85% of their Social Security may be taxed, the actual determination of how much will actually be taxed is based on another series of calculations.

Today, more retirees understand the value of maximizing their Social Security benefits by delaying collection up to as late as age 70. This sudden increase in income, and even greater amounts at 72 when required minimum distributions begin, can trigger higher taxes that they may not have anticipated.

Because of the sly way it can cause taxes to increase, it is often referred to as a stealth tax. Many people are unaware of the tax and therefore do not plan for it or see it coming. You can ensure this tax does not just “creep up” on your clients by ensuring they plan for it ahead of time.

3. Taxation is just one of many factors to consider when making the Social Security claiming decision. You can help.

Understanding how Social Security income taxation works and being able to explain it to clients so you can help them manage it is a valuable service. But the Social Security claiming age decision requires consideration of many specific factors, and taxation of benefits is only one piece of the puzzle.

The decision of when to start collecting Social Security benefits is dependent on personal details including, but not limited to, one’s full retirement age and the amount of their benefit at that age, how long they will continue to work, their life expectancy and, if married, their relative ages and benefit amounts.

By taking a smart, thorough approach to retirement planning, starting with the decision of when to claim Social Security benefits, retirees have the opportunity to increase their standard of living, extend the longevity of their portfolios and leave a larger legacy. 

Beginning with an analysis of the optimal Social Security claiming decision and building from there, retirees who consider their potential tax liabilities and sequence of withdrawal from taxable and non-taxable accounts can increase their net after-tax income more effectively.

This all-inclusive type of retirement planning lends itself perfectly to financial advisors who are also certified as registered Social Security analysts (RSSAs). Having the Social Security knowledge and training provides financial advisors with an enormous advantage and a huge opportunity to help their clients plan ahead.


Martha Shedden, RSSA, CRPC, is president and co-founder of the National Association of Registered Social Security Analysts (NARSSA.org) in which she leads the development of the education and training program for all Registered Social Security Analysts (RSSAs). Follow Martha and NARSSA on LinkedIn.