Social Security: We answer your questions on survivor benefits, earnings test, payroll taxes
Question: I understand that if I claim Social Security before full retirement age or FRA and continue to work, my benefit will be reduced according to something called the earnings test.
In 2022, my understanding is that Social Security will withhold $1 for every $2 I earn above the annual limit of $19,560 in the years prior to FRA and withhold $1 for every $3 I earn above $51,960 in the year I reach FRA. Do I also have to pay income tax on 50% to 85% of my Social Security benefits?
Answer: You are correct about the 2022 retirement earnings test exempt amounts, says David Freitag, a financial planning consultant and Social Security expert for MassMutual.
But it’s worth noting, too, the earnings test offset is not a tax. “It is qualification measurement to encourage workers to wait until full retirement age or later to start collecting benefits,” notes Freitag. “Also, remember that benefits withheld because of the earnings test are gradually paid back over your life expectancy when either you stop working or at full retirement age. Once you reach full retirement age, the earnings test no longer applies.”
As for paying taxes on your Social Security benefits, the short answer is yes, says Freitag. In general, if you are working no matter what age, you pay three common types of taxes:
- The payroll tax that supports Social Security at 6.2% of your earnings, which is matched by your employer.
- The payroll tax that pays for Medicare at 1.45%, which is also matched by your employer.
- The income tax on the received Social Security benefit, based on your combined income for that year.
“However, it is important to remember that when it comes to income tax, Social Security always has a big advantage over money in a tax-qualified retirement savings account,” said Freitag. “The maximum amount of Social Security income that is reported is capped at 85%. There is no cap on income reported from tax-qualified retirement accounts.”
It is also important to remember, said Freitag, that if you are paying into the Social Security system, you could be increasing your 35-year earnings average calculation. “When that average goes up, the monthly benefit will also go up,” he said.
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Q: I plan to work as an independent contractor in the year I turn full retirement age, but I won't claim Social Security until FRA. My plan is to not invoice my employer until after I turn FRA so as to avoid the earnings test. Will this plan work?
A: The rules for self-employed contractors are different from employees who work for someone else, according to Freitag.
First, the self-employed contractors only need to report their net, after-business-expense income. And two, self-employed contractors report the income when it’s received, not when it is earned. “So, this strategy to invoice the employer after FRA should work just fine,” said Freitag.
This booklet, published by the Social Security Administration, may help workers understand the earnings test.
Q: My spouse, who was collecting Social Security, recently died and I am presently not receiving any Social Security benefits. Should I apply for survivor's benefits and are those benefits retroactive to the date of his death?
A: You didn’t give your age, but this is a crucial part of your strategy, said Elaine Floyd, director of retirement and life planning at Horsesmouth.
If you are full retirement age or older, Floyd recommends calling the Social Security Administration at 800-772-1213 and applying for your survivor's benefit as soon as possible. “Ask for retroactive benefits back to the date of his death, or back six months if he died more than six months ago,” she suggests.
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If you are over age 60 but not yet full retirement age, and if you apply for your survivors benefit now, it will be permanently reduced.
“If you have a long life expectancy or just want longevity insurance in case you do live a long time, you would do well to maximize your survivors benefit by waiting until your full retirement age to apply for it,” says Floyd. “If you are 62 or older and also qualify for a retirement benefit based on your own work record, you could start that benefit now and switch to the survivor benefit when you turn full retirement age.”
However, Floyd notes, if your own retirement benefit is higher – that is, if you were to apply for it at age 70 it would exceed the maximum survivor benefit – you should not apply for your retirement benefit now. “In this case, you could start the reduced survivors benefit now and switch to your own maximum benefit at 70,” she said.
Note: If you are under full retirement age and working, all benefits are subject to the earnings test: $1 in benefits will be withheld for every $2 earned over the threshold, which is $19,560 in 2022.
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