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Social Security Income Taxes May Rise : Law: The new rule increases part of benefits subject to federal levies from 50% to 85%, above a certain level of income.

October 21, 1993|From Associated Press

NEW YORK — While people with six-figure incomes are the main targets of the tax increases enacted this year, they aren't the only ones in the line of fire.

Social Security recipients with much smaller bank accounts may also get hit with a bigger tax bill, starting in 1994.

Financial advisers say people facing this prospect may be able to save some money by doing a little advance figuring and planning.

The new law increases the portion of Social Security benefits subject to federal income tax from 50% to 85%, above specified levels of income.

The increase applies to "provisional income" above $34,000 for single taxpayers and $44,000 for married couples filing joint returns (the floor drops to zero for married taxpayers who file separate returns).

Provisional income is defined as adjusted gross income, plus tax-exempt interest income from state and local municipal securities and 50% of Social Security benefits.

That rules out munis, which are employed in many tax-planning strategies, as a way of trying to dodge this extra tax burden.

As can be seen from even a basic discussion of the rules, this whole change isn't a tax-simplification measure by any means.

"Social Security beneficiaries subject to the new rules will have to make a series of interdependent calculations in order to determine the taxable portion of their benefits," says the United and Babson Investment Report, a Boston-based financial newsletter.

For some, the change can mean a significant increase in taxes owed. Consider the example, provided by the accounting firm of Grant Thornton, of a widow receiving $10,000 a year in Social Security benefits and an additional $60,000 in taxable income from other sources.

Under prior law, Grant Thornton notes, she paid federal income taxes on $5,000 of the $10,000 in Social Security benefits she received. Under the new law, she will pay taxes on $8,500 of her Social Security benefits. At a 31% tax rate, this will increase her 1994 federal income tax bill by $1,085.

All this invites careful consideration of what action, if any, could help minimize the extra tax outlays.

"The only Social Security recipients that may experience an increase in tax are those that are already subject to tax on a portion of their benefits," says the accounting firm of Deloitte & Touche.

The 50% inclusion of Social Security benefits in taxable income starts at provisional income levels of $25,000 for single taxpayers and $32,000 for married couples filing joint returns.

These limits, along with the higher levels at which the inclusion rises to 85%, help create a range in which taxes on Social Security benefits start to apply.

"If your income is below the lower range, there is no need to plan," says Deloitte & Touche. "If it is above the higher range, planning steps will not help unless they bring provisional income down.

"Actions that can help are to consider investments in capital assets (such as stocks or mutual funds) to defer your income (and) avoid unnecessary withdrawals from individual retirement accounts and the like."

The investment management firm of T. Rowe Price Associates suggests that "retirees with incomes near the new threshold levels might consider accelerating income this year if possible to meet expenses in 1994.

"Those who plan on working part time when they retire might consider postponing Social Security while working, especially since they could face a reduction in benefits depending on the amount of their earned income."

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