| In a previous article, we explored why it was best | | | | Social Security = $55,000 provisional income. |
| to spend your IRA first. The first reason was to | | | | Couple #2 $21,400 from IRA's plus $48,600/2 |
| delay taking Social Security until age 70 to | | | | Social Security = $45,700 provisional income. |
| maximize the inflation adjusted income from a | | | | As you can see, by spending their IRA funds and |
| safe source, the United States Government. | | | | delaying Social Security, couple #2 lowered their |
| The second reason was to have the IRA | | | | provisional income by $9,300. |
| withdrawals taxed under the current tax | | | | Calculation of Taxable Social Security Income |
| structure since it is highly probable that tax rates | | | | How much does that save in taxes? The IRS has |
| will rise in the future. If you delay your IRA | | | | made this calculation complicated. You can access |
| withdrawals, they may be taxed at a higher rate. | | | | the form for this calculation on page 25 of the |
| The third reason that was not covered in detail in | | | | Instructions for Form 1040 from the IRS website. |
| the previous article is to reduce the amount of | | | | Since these couples will be over the upper limit |
| money that you will have to pay on your Social | | | | ($44,000) for provisional income, the amount they |
| Security benefit income. We will cover this reason | | | | will pay on Social Security income is calculated by |
| in detail in this article. | | | | performing two calculations and then taking the |
| It may come as a nasty surprise to retirees that | | | | lesser of the two amounts from the calculations. |
| income tax must be paid on Social Security | | | | Calculation #1 = 85% of Social Security |
| benefits if what the Internal Revenue Service calls | | | | Calculation #2 = $6,000 %2B 85% times |
| your "provisional income" is over a certain limit. | | | | (provisional income - $44,000) |
| Provisional income is figured by summing your | | | | For couple #1 |
| adjusted gross income, your tax-exempt income, | | | | The first calculation is 85% times $30,000 Social |
| and one-half of your Social Security income. | | | | Security = $25,500. |
| The more income you receive, the larger your | | | | The second calculation is $6,000 plus 85% times |
| provisional income will be, and the more tax you | | | | ($55,000 less $44,000) = $15,350. |
| will pay on your Social Security benefits. | | | | The lesser amount from the two calculations is |
| If you are married and your provisional annual | | | | $15,350. |
| income is over $44,000, you will be in the higher | | | | For couple #2 |
| tier of provisional income and you could pay tax | | | | The first calculation is 85% times $48,600 Social |
| on up to 85% of your Social Security. | | | | Security = $41,310. |
| When you spend your IRA first and maximize | | | | The second calculation is $6,000 plus 85% times |
| your Social Security income, you will draw less | | | | ($45,700 less $44,000) = $7,445. |
| from your IRA since more of your retirement | | | | The lesser amount from the two calculations is |
| income will come from your Social Security. This | | | | $7,445. |
| lowers your adjusted gross income which in turn | | | | Final Tax Amount |
| lowers your provisional income. Lower provisional | | | | Now let's calculate the total taxable income for |
| income lowers your taxes on Social Security. This | | | | both couples. |
| gives you more after tax income to enjoy in | | | | Taxable income for couple #1 will be total IRA |
| your retirement. | | | | income ($40,000) plus the taxable Social Security |
| Let's take the case of two married couples who | | | | income ($15, 350) = $55,350. |
| file jointly. They plan for $70,000 per year | | | | Taxable income for couple #2 will be total IRA |
| retirement income. For sake of simplicity, let's | | | | income ($21,400) plus the taxable Social Security |
| assume that both couples have the same Social | | | | income ($7,445) = $28,845. |
| Security benefits at their normal retirement age | | | | To calculate the tax each will pay, we will use the |
| and both have the same amounts in their IRA's. | | | | 15% tax rate. |
| Couple #1 starts taking Social Security at age 62 | | | | Couple #1 will pay $8,303 and couple #2 will pay |
| and receives $30,000 annual Social Security | | | | $4,327. Couple #2 will save $3,976 in taxes over |
| benefits. | | | | couple #1. |
| Couple #2 spends from their IRA's first to delay | | | | By spending their IRA first, couple #2 will have |
| taking Social Security. At age 70, they start | | | | $3,976 more each year to spend on their |
| receiving Social Security benefits of $48,600 per | | | | retirement. Multiply this over the years in your |
| year. | | | | retirement and it will take you on a few nice trips |
| At age 70, the pretax income for each couple will | | | | or allow you some pleasures that you would |
| be: | | | | otherwise not have been able to enjoy. |
| Couple #1 $40,000 from IRA's plus $30,000 Social | | | | In summary, spending your IRA first can increase |
| Security = $70,000 | | | | your Social Security benefits, lower your tax |
| Couple #2 $21,400 from IRA's plus $48,600 Social | | | | exposure from potential tax increases in the |
| Security = $70,000 | | | | future, and lower the tax you must pay on your |
| If you want to skip the final tax calculations, skip | | | | Social Security. |
| down to the heading "Final Tax Amount" to see | | | | Disclaimer: The information in this article is general |
| the tax savings from spending your IRA first. | | | | information. If you want to leave an estate to |
| Calculation of Provisional Income | | | | your children or if you are in poor health, |
| For the calculation of provisional income we will | | | | concepts presented in this article may not apply |
| assume that they did not receive any tax | | | | to you. Seek professional advice from your |
| exempt interest. | | | | accountant or a professional advisor. |
| Couple #1 $40,000 from IRA's plus $30,000/2 | | | | |