OBBBA Notice #2 – Taxation of Social Security Income
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By Ben Dolan, CFP®
I promised more OBBBA detail and I’m a man of my word! Today’s notice outlines taxation of Social Security Income.
Despite what you may have heard or read, the OBBBA does not exempt Social Security income (SSI) from taxation. While the Trump administration may have been pushing for this provision, the final version of the bill increases the standard deduction and creates a temporary, but separate, deduction for those 65+ (read more about this in my last post here) neither of which directly offsets SSI.
Ben Henry-Moreland, in his July 16th article on kitces.com, explains why it’s important to know that these new deductions don’t directly offset SSI: “This matters from a tax planning perspective because the way Social Security benefits are actually taxed depends greatly on what other income the taxpayer has. If a taxpayer's "provisional income" (essentially their AGI, plus any tax-exempt interest, plus 50% of their Social Security benefits) exceeds certain limits, their Social Security benefits are taxed at higher rates: 0% if below $25,000 (single) or $32,000 (joint), 50% if between those amounts and $34,000 (single) or $44,000 (joint), and 85% if above those amounts. In other words, the higher the taxpayer's AGI, the higher the percentage of their Social Security income that gets taxed, which can lead to extremely high marginal tax rates of 40% or more on income received in the zone of increasing taxation of Social Security benefits.”
The misconception that SSI will be taxed less or not taxed at all may lead some to recognize more income (through Roth conversions, for example). The result could be that a greater portion of their SSI is taxable.
Prior to making certain tax moves, you may want to run a good tax projection to ensure you’re not unknowingly increasing your marginal tax rate. This is especially true given the OBBBA touches much more than just one section of the deduction schedule (eg SALT, PMI, Charitable, etc.).
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