Getting Squeezed

MY CONTENTION: ONE of the most egregious parts of the tax code is the stealth tax on Social Security benefits.

To be sure, if your income is low enough, your benefits won’t be taxed. But around 56% of retired Americans pay taxes on up to 85% of their Social Security benefits. And the number grows each year. Incomes rise, if only because of inflation-driven increases, and yet the thresholds for taxing benefits have never been adjusted for inflation or wage growth. Adding insult to injury, 11 states currently tax Social Security benefits.

Today, if you’re an individual filer with a combined income between $25,000 and $34,000, up to half of your Social Security benefit will be taxable on your federal tax return. If your combined income is above $34,000, up to 85% of your benefits may be taxed.

Meanwhile, if you’re married filing jointly and have a combined income of $32,000 to $44,000, up to half of your benefits will be taxable. If your combined income is above $44,000, up to 85% will be taxed. Combined income includes your adjusted gross income, municipal bond interest and half of your Social Security benefit. Who came up with that cockamamie definition of income?

When the tax on benefits was introduced in 1984, it only applied to 50% of benefits. Because of further tax hikes introduced in 1993, up to 85% of benefits can now be taxable. So, let me get this right: No tax was fair before 1984, taxing 50% was fair for the next decade and now 85% is justified. Makes total sense, right?

Apparently, ignoring inflation is also fair. The $25,000 threshold for individuals and $32,000 for joint filers would rise to $73,000 and $93,200, respectively, if they were adjusted for the inflation since 1984, according to a USA Today article. Result: A tax, which once hit just 10% of retirees, now affects more than half of seniors. When you consider that other tax items—such as federal tax brackets, contributions to retirement accounts and the standard deduction—are adjusted annually, it all seems ridiculous.

Currently, there are bills in Congress called You Earned it, You Keep It and The Senior Citizens Tax Elimination Act, written by a Democrat and a Republican, respectively. Both would remove Social Security benefits from the calculation of gross earnings for income tax purposes.

But don’t expect either bill to be acted upon, given Social Security’s looming funding crisis. Remember, we’re looking at potential Social Security cuts of 25% in the early 2030s if Congress doesn’t take action. Overhauling Social Security would require bipartisan support. With a divided Congress, there seems little hope.

Meanwhile, seniors are getting squeezed by inflation. Yes, Social Security’s cost-of-living adjustment (COLA) for 2023 was the highest since 1981. Problem is, there’s a weakness in the COLA, which is measured by a version of the Consumer Price Index known as CPI-W. It doesn’t accurately reflect the different spending habits of seniors. A study by The Senior Citizens League, a nonpartisan advocacy group, found sharp cost increases for seniors since early 2000:

• Out-of-pocket prescription drug costs climbed an average 311%, from $1,102 to $4,524.
• Out-of-pocket dental care costs rose an average 275%, from $286 to $1,073.
• Monthly Medicare Part B premiums increased 262%, from $45.50 to $164.90.

The Senior Citizens League found that the goods and services bought by the typical retiree rose 141% over this period, while Social Security benefits climbed just 78%. And don’t expect relief anytime soon. Social Security’s COLA adjustment for 2024 won’t be anywhere near this year’s 8.7%. In fact, the COLA for 2024 could be below 3%.

Inflation hit a 40-year high in June 2022, but it’s now easing in some categories. Still, groceries are continuing to see rapid price increases. Middle- and lower-income retirees—whose budgets are already stretched—will be hit hard, spending more on necessities while losing more of their Social Security benefits to taxes. The bottom line: Even without actual cuts, benefits are shrinking.

Marjorie Kondrack loves music, dancing and the arts, and is a former amateur ice dancer accredited by the United States Figure Skating Association. In retirement, she worked for eight years as a tax preparer for the IRS’s VITA and TCE programs. Check out Marjorie’s earlier articles.