Is Social Security Taxed as Ordinary Income?

Social Security is the short name for the federal program officially called the Old-Age and Survivors Insurance and Disability Insurance program. This retirement program started in 1935 with the passage of enabling legislation and began paying benefits to retirees in 1940. Employees and employers contribute to the fund, each paying 6.2 percent of wages on amounts up to a maximum of $160,200 in 2023, with increases in the maximum adjusted periodically. In addition, self-employed individuals pay both the employee and employer tax, for a combined 12.4 percent.

Medicare is part of the Social Security program and provides health insurance for people aged 65 or older, plus some younger people with disabilities. As with Social Security, employees and employers each pay half—in this case, 1.45 percent with no cap on the wages subject to the levy. In addition, high-income taxpayers pay an additional 0.9 percent on earnings above $200,000 (for single filers).

Furthermore, there is the Net Income Investment Tax (NIIT), often called the Medicare Tax. The NIIT is a 3.8 percent tax due on either your investment income or the amount by which your MAGI exceeds the IRS thresholds. For example, if your MAGI exceeds $250,000 (joint return), you may be subject to the tax applicable to interest, dividends, capital gains, and similar sources of income.

How is Social Security income determined?

For most people, the earliest age to begin receiving Social Security payments is 62. However, there are exceptions for people who are disabled or receive benefits based on someone else's earnings. For most people, benefits are based on three primary factors: how many years you worked and contributed to the Social Security system, how much money you made, and how long you wait until you start claiming your benefits. The longer you wait and the more you earn while working significantly contributes to your ultimate benefit amount, which is periodically adjusted for inflation.

How is Social Security taxed?

Many people's Social Security benefits are not subject to income tax, but if you have other income, yours will be. For example, if you have income over $25,000 (single filer) or $32,000 (married filing jointly), you will pay income taxes on fifty percent of your benefits. However, if your total income (single filer) is over $34,000 or $44,000 for a joint return, you will pay income taxes on 85 percent of your benefit amount. The income that determines whether you are taxed consists of your adjusted gross income (not including your benefits from Social Security), plus nontaxable interest income, plus the value of half of your Social Security income.

Let’s look at an example:

Suppose you are retired, and your Social Security benefit pays you $3000 monthly. In addition, you have income from other sources (investments, real estate, and wages) of $30,000 and nontaxable interest income of $5,000.

• Adjusted gross income: $30,000
•  Nontaxable interest: $5,000
• Half of Social Security benefit: $23,000
• Total combined income: $56,000

Because $56,000 exceeds the SSA threshold, 85 percent of your SSA benefit income will be taxable, whether you are a single or joint filer. The Social Security Administration reported last year that slightly over half of the recipients pay taxes on their benefits due to the amount of other income they receive. Twelve states also currently tax some Social Security benefits, but in many of those, the taxes are currently being reduced or eliminated.