You know that you are eligible to begin receiving Social Security benefits as early as age 62. But are you aware that-depending on your income-those benefits could be taxable?

Wouldn’t you like to increase your net income (after tax) each month in retirement by understanding a few simple facts about the taxation on Social Security benefits and your other retirement income sources? Do not apply for Social Security benefits before completely understanding the interplay of the earnings test, the actuarial reduction, and the income tax consequences of the earnings themselves as well as the Social Security income.

Single retirees with income between $25,000 and $34,000 and married couples with income between $32,000 and $44,000 are taxed on up to 50% of their Social Security benefits (dollar amounts are not adjusted for inflation). And up to 85% of benefits are taxable for those whose income exceeds the top of the range. When calculating income, you must include tax-exempt interest and half of the Social Security benefits you received during the year. However, qualified distributions from Roth IRAs may be excluded from income.

Taking certain steps to keep income low can help you minimize the tax hit on your benefits. Here are a few possibilities:

• Consider delaying Social Security benefits.
  The last several articles we’ve published have gone over a myriad of benefits associated with delaying your Social Security. Claiming Social Security as late as age 70 results in higher income later in life, higher total income for clients who live past the breakeven age, and higher survivor benefits for widows and widowers. Now we know delaying Social Security can be smart from a tax standpoint as well.
  

• Consider converting traditional IRAs to Roths.
  Distributions from Roth IRAs are not taxable and therefore won’t cause Social Security benefits to be taxable. The optimal time to do a Roth conversion is after you retire, are in a lower tax bracket, but before claiming Social Security benefits.
  

• Consider drawing off “tax deferred” retirement assets.
  Although preserving the tax deferral of IRAs is often a good idea, there are instances where it makes more sense to start siphoning off money earlier than you have to. One such instance is for the purpose of delaying Social Security benefits to age 70. This increases your lifetime Social Security benefits and decreases your total tax bill. The reason is that taxes on Social Security benefits raise the effective tax rate on whatever IRA distribution you take.

• Consider doubling up every other year on IRA distributions.
  Withdraw enough from traditional IRAs to last two years so that income will be lower every other year. Be aware, though, that a large distribution could force you to pay tax on more of your Social Security benefits in the distribution year. In addition, the IRA income may push you into a higher marginal tax bracket-and, naturally, you’ll have to pay tax on the IRA distribution itself. Remind readers that the flexibility to do this is reduced, although not eliminated, when RMDs are required starting at age 70-1/2.
  
• Consider reducing debt/expenses.
  By paying off debt prior to retirement, you decrease the amount of income needed during retirement which decreases your tax burden.
  
• Consider making changes to your investment allocation.
  Shift some assets that won’t be needed in the short term to growth-oriented stocks that don’t pay dividends.
  In many cases it may make more sense for you to spend your 60s working, paying down debt, reducing your expenses, varying your retirement savings vehicles (Roth IRAs), reallocating investments, and building up savings so you can retire at 70, apply for Social Security, and keep your income as low as possible to minimize taxes on benefits.

We would be happy to help you evaluate and choose the right approach for your personal financial and tax situation.