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It would be nice, quite a windfall.
However, we didn’t pay for our benefits. In the aggregate, beneficiaries pay for about 15% of all benefits received, hence maximum 85% of benefits being taxable. I checked my records a found that within six years of starting, I collected benefits (including spousal benefit) equal to all the taxes I and employers paid since 1959.
The law says the benefits are taxable income, but given the standard deduction, a lower income retiree may pay very little or no actual taxes on the benefits received.
The income taxes paid go to the Social Security and Medicare A trusts, not general revenue. Both trusts are underfunded and being depleted in a few years.
How do the programs make up the lost tax revenue? We have yet to hear of a plan to make either Social Security or Medicare sustainable.
So, is it fair, prudent or necessary to make Social Security benefits income tax free?
I have asked many people and overwhelmingly the answer is yes, benefits should be tax free – while they also demonstrated a total lack of information or understanding of the issue, with many still believing Congress stole the trust funds or they could have done better investing on their own without paying SS payroll taxes. Oh my. 😱
If specific sources of income are to be untaxed then those taxes must be collected elsewhere. I’ve always considered a tax, any tax, as being a part of the cost of living and I think of my life as akin to running a business. I have been self employed. As I recall that meant I paid my share, my employer’s share as well as any Medicare tax. Oh, and let’s not forget about Worker’s Compensation insurance (there’s a story there). My first paycheck upon which I paid SS tax was 1964 and my last was 2023. That’s a span of 59 years. What I’ve earned in SS benefits as a retiree outweighs what I paid in, but it pales when compared to the benefits of some of the public service workers I know. I now provide my services without pay as I no longer want to bother with the federal forms and tax payments, etc. I suppose one could say that by donating my services I am contributing to the demise of the entire social security system. LOL.
Wow, 6 years. Fascinating! I never would have imagined that. Way to put a sharp pencil to this.
As the old saying goes: “There is no free lunch.” If we exempt SS benefits from taxation, the taxes that would otherwise be collected on these payments will not be available to fund future SS benefit payments.
Which reminds me of another old saying: “Robbing Peter to pay Paul.” If we exempt SS benefits from taxation, the retirement fund’s reserves – absent other needed changes – will simply be exhausted sooner, leaving many current and future recipients with less than they earned or were promised.
There is great need to address the ongoing funding of the SS program, but across the range of possible options to address this need, eliminating taxation of current benefits should be seen as little more than the political stunt that it represents.
It would be more honest to take any taxes collected on social security income and pay them into the SS trust fund. Instead, politicians take the funds, allocate to general revenue and then spend them as they wish.
Absolutely not true. Politicians do not take the funds and allocate them to general revenue.
I even explained what happens to the taxes in my article. The taxes paid go into SS and Medicare Trust funds.
As a retiree, the answer is heck yes. Practically, the answer is likely no.
A truly honest sentiment Jeff.
Although I would benefit from no tax on SS, I do not agree that everyone should benefit from such a change. I could accept some relief on the lower end, more affluent people, myself included, should still pay. They could increase the taxable income level subject to taxes to provide that relief on the lower incomes.
Of course, as always when we are talking about tax cuts, who is going to pay for it?
I’m taxed on the maximum of 85% of my SS benefits, but I don’t consider it unfair. I do wish that the method of calculating the percentage weren’t so convoluted, however. I’ve never seen a clear explanation of the calculation. I finally studied the IRS worksheet and figured it out, but I don’t think that I could explain it to someone else. Also, the thresholds used to determine what portion is taxed haven’t been changed since the tax began in 1984, so a much higher percentage of SS recipients are taxed now.
Most people think of Social Security as insurance but, at its heart, it’s a welfare program. People with low income during their working years receive a much higher percentage of their previous income in SS benefits that do higher-income recipients. How benefits are figured is another hard-to-understand facet of SS. Recently there’ve been a lot of outcries about the reduction in SS benefits for those who receive pensions for work that wasn’t covered by SS taxes. There’s a logical reason for the reduction, again tied to the way that SS benefits are calculated that few understand. I started my career in a Federal job which wasn’t covered by SS at the time and would be hit by the reduction in SS if I had stayed in the job long enough to receive a pension.
The SS trust fund is an accounting entry in the government books and has never really existed as a separate entity. The money is invested in government securities so it can be claimed that Congress borrowed the money in the fund and spent it on something else. However, it must be invested in something, and government securities are generally considered the safest choice.
As a financial planner that advised clients for decades on Social Security strategies, I find this conversation fascinating. Most folks know nothing about the “math” behind Social Security Benefits. Social Security is one of the most progressive systems in existence, both in the calculation and taxation of benefits. This, in my opinion, is as it should be, as those on the bottom of the income spectrum need every dime they can get simply to survive. Those of us that are more fortunate should simply count our blessings and realize that we are keeping our (much) poorer fellow citizens from being homeless.
Eliminating the taxation of Social Security benefits for higher (total) income taxpayers simply hastens the demise of the Social Security system. Similarly, Congress’s recent elimination of the Windfall Elimination Provision and Government Pension Offset (which limited Social Security benefits for those taxpayers who were in retirement systems that did not pay into Social Security) was a poor move, as it also hastened the demise of the Social Security system.
We cannot stop taxing Social Security benefits. The government keeps spending and their revenue has to come from somewhere. And/or if the income taxes from SS go to SS Trusts we need to keep funding the trusts for future citizens who need it.
We need to gradually increase the age for collecting SS. People live much longer now and that is a realistic solution for the changing lifespans of our citizens and the health of the SS system. Also let’s get creative what else can we do to maintain the long-term health of the SS system? I don’t think about this SS problem every day, it is not my expertise, but there has to be better solutions. Americans are amazing at solving huge “Moonshot” problems, and SS while not as glamorous, SS is critical for most of our citizens.
Teh government could spend less, right?
I agree that fixing SS is was more easy than the rocket science required for solving moonshot problems. I want also to believe that raising the normal retirement age is the fix, heck, I waited to age 70. Thing is, I prepared taxes for a living, it was easy. I would not like to be the guy who has to tell an Iron Worker or a Brick Mason to work that long.
I know a number of union tradespeople. Their pensions and benefits are pretty good if they hang in king enough. Many are able to do side work for cash while. Ills ting retirement. People in the trades without union benefits can struggle.
I think this is a huge issue. I’ve had a slew of contractors in the house over the past two years, many of them in their late 40s and early 50s. I enjoy chatting with these folks — it’s the journalist in me, always curious about the lives of others. Many of these guys struggle with physical deterioration, and it’s hard to imagine them working far into their 60s.
Indeed. My father had a habit of pointing out to me throughout my youth, even when I was a young boy, occupations that were hard on a person physically, or incredibly monotonous, such as millwork (we lived in Oregon and many there were employed in the lumber mills). Anyway, this man, maybe 50ish, came over to lay new carpet in our house (I was maybe 10 at the time) and was struggling from lower back pain. My father, ever the empathetic extrovert, convinced the guy to lay on his stomach and my father proceeded to crack his back and give him some relief.
I wonder if it would be possible to create an optional upper tier contribution level in order for such workers to purchase credits, enabling them to retire earlier.
On a related note, the health of SS relies on people putting money into the system. Of course, we know that the boomers are retiring and not putting money into social security but I’d also point out that our trend in the decreasing population is worrisome. I worked for a baby food company in 1995. The birth rate then, in the US, was about 3.9 million annually (14.9% per thousand population). 1957 had the highest number of births at about 4.3 million (25.3%). The birth rate has been steadily declining and in 2020, the birth rate declined to 10.9% with 3.6 million births.
Social Security tax on AI agents and robots.
RQ,
Your presentation is a reasonable manner in which to present the case, however, there are other valid cases to consider as well.
Social Security taxation, if conducted by an organization other than the Government, would be considered a Ponzi scheme.
The government collects money from people and uses it to pay benefits to other people, who many times, have paid in considerably less than those currently contributing. In other words just like Ponzi, the money from the first people to “invest” is used to pay off those who come later.
And just like Ponzi, eventually, the program fails…like Social Security did in 1983…and is scheduled to again, in 2023/2034. Technically, it will not fail, it will simply not be able to find the benefits owed at the levels promised.
The red herring that Congress didn’t steal the SS or medicare Funds because they are separate, and not in the general fund is technically true, but the effect is the same.
With all that said, another consideration, related to you getting all your money backing 6 years, are those who contribute for a 30-40 year working life and die, before collecting a cent.
While we’re discussing getting screwed by the SSA, one irritating little ploy used by the SSA is the way they confiscate the benefits for the month you die. Another is the fact that all “rounding” of benefits due are rounded down, to the benefit of the SSA. And the worst rip off of all, the failure of Congress to index the brackets for the taxation of benefits. This was not an oversight. I believe it was done to punish higher earners and reward lower earners, just as it has since the brackets were adopted.
And there is the consideration that if the worker had been free to invest the funds confiscated by the government to fund the retirement benefits of others, and been allowed to invest those funds in the S&P 500, the benefits he/she would have earned would dwarf the benefits “promised” by the SSA.
Congress can solve the problem, and would have already, if it wasn’t politically difficult and they weren’t;t such cowards, focused only own getting reelected.
Personally, I am in favor of having the SS Benefits going back to the manner in which they were paid originally…from 1935 until 1983…without Taxation, and hopefully President Trump will keep his promise to make that happen but if he cannot, because of Congressional Cowardice, I hope he will at least demand that Congress update the brackets to recognize the impact of the passage of time on those brackets.
In addition, I would like to see the Disability Benefits qualifications tightened up. In the Obama first term, the number of disability claims added to the rolls of SS was astronomical and could not be explained other than through fraud, which was encouraged by the Obama-Biden administrations. Look it up.
But that’s just me. Others may feel differently about the taxation of their benefits and choose to be magnanimous, like you. To those folks I say, the IRS will accept any funds YOU wish to send them out of YOUR benefits. I would like to keep mine.
Social Security is a pay-as-you-go system. It should be broadly understood that the FICA deductions taken from your paycheck are received as benefits by the current generation of retirees. There is no retirement account in Washington with your name on it. If you think otherwise, you need to be educated.
Retirees in the future will receive Social Security benefits paid by wage earners at that time. That’s why the shrinking ratio of workers to retirees is of so much concern.
If many people believe that their FICA deductions are paying for their own benefits, then they will likely resist any talk of reforming the program to ensure it’s solvency. Their mantra will be “Don’t touch Social Security.”
But if more people understood how the SS program works, maybe they would appreciate how demographic trends threaten the program, and would be more supportive of reforms meant to shore up the system.
In this case, ignorance is not bliss.
Very few contribute and never collect one way or another.
There is no reason for the program to fail. If Congress since 1983 had done its job and made gradual changes to adjust for demographic changes there would not be a problem.
In fact, the adjustments to maintain 75 year solvency should be automatic based on actuarial calculations. No need for Congress to act. If an increase in the contribution rate is needed, it happens. If an improvement is made or COLA, it’s funded automatically.
A-Frickin-Men
I always believed that the non indexed income triggers for SS were unfair. However, I didn’t know those taxes went back into the trust fund until I began reading HD. Knowing the facts changed my thinking.
I agree that there should be no changes to SS that don’t include a solution to fix funding shortfalls.
The calculation and taxation of SS benefits is not “fair” on a purely monetary basis. However it is vital for a large number of elderly individuals and my hope is that it will continue as a safety net for workers in the future. Increasing the SS tax burden on today’s workers also concerns me. As such I have no qualms about the federal taxation of benefits. I do have concerns with the number of disability claims which I understand account for about 1/3 of the pie and have been increasing through the years. I would hope that any disability claims are checked and valid.
Disability claims currently account for 11% of Social Security spending, not 1/3. link
Why is calculation not fair?
Earnings in the calculation consider only taxed wages, adjusted for inflation when benefit is calculated and the formula is skewed toward lower income earners so they get a higher percentage income replacement. Seems fair to me.
The payout ratio on a monetary basis favors the lower income contributants
That was the whole point of the program. It was designed to try and eliminate elderly poverty, not as a large retirement bonus for the rich.
Actually, those bend points should be adjusted to skew more of a benefit to the lower income group.
That is if we ever get ground to making the program sustainable
When was the last time you heard a serious discussion about addressing SS finances?
The first bend point has a 90% multiplier that’s true, but it’s only up to an average wage of $1226 in 2025.
The Congressional Research Service on 9/23/2024 issued a summary report on this topic titled Social Security Benefit Taxation Highlights –
https://crsreports.congress.gov/product/pdf/IF/IF11397
I have never seen in my reading information on how the IRS determines the amount of income tax that they attribute to the taxable amount of social security benefit on a particular 1040 that goes to the SSA trust funds. I would guess they are using simple linear math calculation and not the actual marginal taxes which could understate the amount of tax on social security benefits that should go to the trust.
As far as taxation I think the defunct pension rules where what you have received in benefits are tax free until you get back all you have paid in and then amounts above that are taxable would be an objective way to determine the taxation of your benefits. I have 0% expectation that would ever happen.
I don’t know where they get it, but the $50 billion is a line item on the SS trustee summary financial report. Page 7 of the last annual report.
The taxes you paid provided benefits to retirees from previous generations. The promise was that your benefits would be paid by future generations. Comparing what you paid to what you receive is irrelevant, and needs to be adjusted for inflation in any case.
I think that either all the benefit should count as taxable income, or none of it should (keep it simple!). However, there should be no change unless the coming shortfall is fixed at the same time.
But if you are a member of a large generation being paid by a small generation, then you will probably get less than if you were a member of a small generation being supported by a large generation. Something has to give eventually
it’s not irrelevant at all, it’s a simple way to demonstrate we did not pay for our own benefits which many people believe.
If you participate in a contributory pension or buy an annuity with after tax dollars only the value beyond your contribution is taxable.
SS is not that simple because it is a lot more than a pension and covers many people who never actually paid any tax. The payroll tax has nothing directly to do with the benefits.
It’s like health insurance, the premiums you pay are not directly related to your claims, if any, but reflect the collective experience of the group insured in a given pool.
Both my wife and I – separately – collect Social Security as part of our retirement income.
I can’t see any reason why SocSec benefits should not be taxed.
“… within six years of starting, I collected benefits (including spousal benefit) equal to all the taxes I and employers paid since 1959.”
Just curious about the amounts you were using in your calculation: Did you convert into current dollars each year’s tax paid and each year’s benefit received?
I added up my taxes paid in my SS account compared with our monthly benefits collected since the start.
Meaning you ignored inflation??
Since I paid with old dollars and get benefits with inflated dollars, even 15 years beyond what I initially earned, didn’t I get a bargain?
I recently looked at my SS earnings statement, and found that I had paid about $75k in SS tax with my employers matching that. I received that $75k back in the first two years of receiving benefits.
As far as taxing SS benefits, I have no objection to the idea. However, if everything else in indexed for inflation why not the SS exemption amount. I mean, the idea at the time the tax was passed was to make it applicable to the higher income folks. Such a change would eliminate most of the opposition to “taxing” benefits…..
It’s because it was needed in the long-term income calculation for the SS trust back when implemented. Pretty soon we will be back in the knee jerk, crisis mode of fixing the Trust.
I’ll be interested to see how the $50 billion a year now revenue from taxes is made up as the shortfall hole gets deeper.