Greetings! I trust that this will find you well and in good spirits.
I saw this article recently and found it to do a great job explaining an important nuance on maximizing social security benefits. I hope it will benefit you in your planning.
Planning for Earned Income in Retirement
What is it?
If you’re like a lot of people, retirement won’t be the world of gardening, golfing, traveling, and tennis you once envisioned. Rather, retirement will mean relaxing and working. Maybe you’ve retired from your “regular” job and started a business, or perhaps you want to work part-time just to stay busy. However, if you work after you start receiving Social Security retirement benefits, your earnings may affect the amount of your benefit check.
How your earnings affect your benefit
Your earnings in retirement may increase your retirement benefit
Your monthly Social Security retirement benefit is based on your lifetime earnings. When you become entitled to retirement benefits at age 62, the Social Security Administration (SSA) calculates your primary insurance amount (PIA) upon which your retirement benefit will be based. Later, your PIA will be recalculated annually if you have had any new earnings that might substantially increase your benefit. So if you continue to work after you start receiving retirement benefits, these earnings may eventually increase your PIA and thus your retirement benefit.
Your earnings in retirement may decrease your retirement benefit
If you earn income over a certain limit by working after you begin receiving retirement benefits, your benefit may be reduced proportionately. This limit, known as the retirement earnings test exempt amount, affects only beneficiaries under normal retirement age. The benefit reduction is based on your annual earnings and is not permanent; your monthly benefit is reduced starting in January of the year following the year you had excess earnings and will be reduced until the excess earnings are used up.
Example: Emily is entitled to a Social Security retirement benefit of $800. When she was 64, her annual earnings exceeded the retirement earnings test exempt amount, so her benefit was reduced by $600. Consequently, in January of the following year, she received only a $200 monthly benefit check ($800 minus $600 equals $200). However, in February, she again received an $800 monthly benefit check.
Tip: If your monthly benefit is reduced in the short term due to your earnings, you’ll receive a higher monthly benefit later. That’s because the SSA recalculates your benefit when you reach full retirement age, and omits the months in which your benefit was reduced.
How much is the retirement earnings test exempt amount?
In 2015, the annual exempt amount is $15,720 ($15,480 in 2014) for beneficiaries under normal (full) retirement age. However, in the year you reach full retirement age, a different limit applies. The limit in 2015 is $41,880 ($41,400 in 2014), which applies to earnings up to, but not including, the month you reach normal retirement age.
How much benefit is withheld if you exceed the annual earnings limit?
If you’re under normal retirement age, $1 in benefits is withheld for every $2 of earnings in excess of the annual exempt amount.
Example: Ida was a self-employed potato farmer. After she began receiving Social Security retirement benefits at age 62, she continued to sell potatoes at her produce stand outside of Boise. Since she exceeded the annual retirement earnings test exempt amount by $380, $190 was withheld from her benefit check the following January.
In the year you reach normal retirement age, $1 in benefits is withheld for every $3 of earnings in excess of the special exempt amount that applies that year, but only counting money earned before the month you reach normal retirement age.
Example: In the year that Ida reached normal retirement age, she earned $3,200 more than the special earnings limit that applies in that year. However, she earned $500 of that after she had reached normal retirement age, so that amount wasn’t counted in calculating how much benefit would be withheld. Instead, the remaining $2,700 was used in the calculation, and $900 was withheld from Ida’s benefit ($1 for every $3 in excess of the earnings limit).
What kinds of earnings may affect your benefit?
Earnings that might reduce your benefit
• Wages you earned as an employee (counted for the taxable year they’re earned)
• Net earnings from self-employment (usually counted in the year earnings are received)
• Other types of work-related income, such as bonuses, commissions, and fees Earnings that won’t reduce your benefit
• Pensions and retirement pay
• Workers’ compensation and unemployment compensation benefits
• Prize winnings from contests, unless part of a salesperson’s wage structure, or entering contests is your “business”
• Tips that are less than $20 a month
• Payments from individual retirement accounts (IRAs) and Keogh plans
• Investment income
• Income earned in or after the month you reach normal retirement age
Other types of earnings may affect your benefit. If you have additional questions about how the Social Security Administration defines earnings, contact the SSA at (800) 772-1213.
Which of your benefits may be affected by excess earnings?
Your own retirement benefit
Your Social Security retirement benefit may be reduced if you earn income over the retirement earnings test exempt amount.
Benefits paid to your spouse or child
If you have retired and your spouse and/or child receives benefits based on your Social Security record, any excess earnings you have may reduce their benefits. In addition, any excess earnings they have may reduce their own benefits but not your benefit.
Example: Bill is 63 and receives a Social Security retirement benefit. His wife Betty, who is also 63, receives a retirement benefit based on Bill’s earnings that is equal to 50 percent of Bill’s benefit. If Bill earns $200 over the retirement earnings test exempt amount, his benefit is reduced by $100 ($200 divided by 2) the following January. Betty’s benefit is reduced by 50 percent of that amount, or $50.
Example: However, assume that Betty also works and earns $200 over the retirement earnings test exempt amount. Her benefit will be reduced by $100 ($200 divided by 2). Her benefit is reduced an additional $50 by Bill’s excess earnings. Bill’s benefit, however, is reduced by $100 because of his own excess earnings but is not affected by Betty’s excess earnings.
Benefits paid to your survivors
If you die and a member of your family receives a survivor’s benefit, that benefit may be reduced if the family member earns money in excess of the retirement test exempt amount.
Example: When Bill dies, Betty, his widow, begins receiving survivor’s benefits based on Bill’s Social Security record. Since she earns $200 more than the exempt amount that year, Betty’s survivor’s benefit of $825 is reduced by $100 in January of the following year.
The earnings test is different in the first year of retirement
Earnings from an employer
In the first year of retirement, the earnings test is applied differently than in later years. Normally, the earnings test is based on the amount of income you earned annually; however, in the first year of retirement, the earnings test can be based on the amount of income you earned monthly, if that would benefit you. You can receive a full Social Security benefit check for any whole month in which your earnings don’t exceed 1/12th of the annual exempt amount.
Example: Caleb retired on July 31 at age 62. From January through July of that year, he earned $40,000. After he retired, he began working part-time and earned only $300 a month from August to December (each month, less than the monthly earnings exempt amount). Thus, even though his annual earnings during the year he retired greatly exceeded the annual earnings exempt amount, Caleb’s benefit check was not reduced the following year.
Earnings from self-employment
If you’re self-employed, the SSA also considers whether you perform substantial services in your business. You will receive full benefits for any month you’re not substantially self-employed. In general, you’re considered to be substantially self-employed if you worked as a self-employed person more than 45 hours in one month. If you work less than 15 hours in one month, you will not be considered substantially self-employed, and you probably will receive your full retirement benefit for that month. If you work between 15 hours and 45 hours a month, you may or may not be considered substantially self-employed by the SSA, and your retirement benefit may be affected.
How you can keep your post-retirement earnings from exceeding the earnings exempt amount
Time your post-retirement earnings
If you expect you will have substantial earnings after you retire and you have not yet reached normal retirement age, you may be able to time your post-retirement earnings to prevent withholding of all or part of your Social Security retirement benefit.
Create a self-employment loss
If you’re self-employed, you may be able to generate a self-employment loss to offset excess self-employment income.
Incorporate a sole proprietorship
If you incorporate a sole proprietorship as an S corporation, you may be able to reduce your self-employment earnings by receiving profit distributions that will not be considered self-employment income for the purposes of the retirement earnings test.
Shift earnings to others
You may be able to reduce your net self-employment earnings if you shift earnings to others by forming a partnership with your spouse or employing minor children.
Caution: The SSA may scrutinize questionable retirement arrangements. Under the law, you are entitled to work and combine your Social Security benefits and earnings in such a way as to get the most income you can. However, you should not understate your earnings or establish fictitious business arrangements.
If you have any questions or feel that we can help in any way please call us.
Jeff Christian CFP, CRPC