Advanced Underwriting Consultants

Ask the Experts – October 3, 2014

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: Are there ways to minimize income taxes on Social Security retirement benefits?

Answer: Taxpayers often try to minimize the amount of their Social Security retirement benefits subject to taxation with a number of strategies. Particularly, taxpayers can delay filing for Social Security and use their available retirement accounts or assets in the meantime.

For example, let’s say Maude plans to retire at age 62 and needs $40,000 per year on which to live. Also assume that Maude’s PIA is $2,000 per month, or $24,000 per year.

If Maude files at age 62, she will receive $18,000 per year from Social Security ($24,000 reduced by 25%), and presumably make up the extra $22,000 per year from her tax-deferred retirement accounts. Therefore, the $22,000 is added to her adjusted gross income, and her provisional income is $31,000 ($22,000 AGI + ½ of $18,000 Social Security benefits). Since Maude’s provisional income exceeds $25,000, she includes $3,000 of her Social Security benefits in her gross income (i.e. half of the excess of $31,000 provisional income over $25,000 base amount).

Let’s say Maude files at age 70 instead, where she would earn delayed retirement credits at 8% of her PIA per year. In this case, her benefit would be $31,680 per year, requiring her to take out only $8,320 per year from her personal retirement accounts. Her provisional income in this situation is $24,160 ($8,320 AGI + ½ of $31,680 Social Security benefits); therefore, no portion of her Social Security retirement benefits would be taxable.

We’ve purposefully used elementary examples to show how delaying Social Security while using other means until filing for benefits can help avoid taxes on one’s Social Security benefits. We did not take into account the myriad variables that should be taken into account when deciding whether to file for benefits early or later.

Additionally, there are other ways to reduce provisional income. For example,

  • Keep assets inside qualified retirement plans, since distributions from tax-qualified plans are generally added to AGI.
  • Liquidate tax-qualified retirement plans before filing for Social Security benefits.
  • Invest in after-tax retirement plans, such as Roth IRAs or designated Roth qualified accounts.

As usual, the benefits of reducing the amount of Social Security benefits should be weighed against the costs of each of these strategies.

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Ask the Experts – July 10, 2014

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: If my client files for early Social Security retirement benefits at age 62, will she receive a reduced survivors benefit if her husband predeceases her?

Answer: No. The fact that your client files early for her own retirement benefits does not affect her potential future survivors benefits. In other words, an individual can file for her own benefits at age 62 and switch to survivor benefits after her spouse’s death after she reaches full retirement age (FRA) without seeing a reduction in survivors benefits.

A surviving spouse generally receives the amount the deceased spouse was receiving from his own Social Security benefits at the time of his death. If the deceased spouse was receiving reduced benefits, the survivors benefit is based on that reduced amount. Conversely, any delayed retirement credits (DRCs) accumulated by the deceased spouse will increase the survivors benefits.

On the other hand, if a surviving spouse files for survivors benefits prior to FRA, her survivors benefits will be reduced; however, filing for her own retirement benefits before FRA has no effect on her survivors benefits.

Here’s an example. Wife’s FRA is 66, and she has earned a primary insurance amount (PIA) of $800 per month. She files for benefits at age 62, receiving $600 per month ($800 PIA reduced by 25% early retirement reduction). Husband’s FRA is 66, and he has earned a primary insurance amount of $2,000 per month. He files for his own benefits at age 70, receiving $2,640 per month ($2,000 PIA increased by 32% DRCs). If the husband dies and the wife has reached FRA, she will be entitled to $2,640 in survivors benefits (replacing her own benefit amount of $600 per month).

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Ask the Experts – July 7, 2014

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: If my client has a simplified employee pension (SEP) plan and works after he turns age 70 ½, can he wait until he retires to start taking RMDs?

Answer: Unfortunately, the IRS says that even though SEP and SIMPLE IRAs are employer-sponsored retirement plans, they are still IRAs, and therefore the IRA rules for RMDs apply. An owner of an IRA must start taking RMDs in the year the taxpayer turns 70 ½, so even if your client keeps working, he will nevertheless be required to take distributions from his SEP plan.

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Ask the Experts – June 9, 2014

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: Can my client file for survivors benefits now, at age 64, and switch to her own retirement benefits later at age 70, earning delayed retirement credits (DRCs)?

Answer: Yes, a surviving spouse may file for survivor benefits at age 64 and switch to her own benefits later.

This allows her to receive her survivor benefits immediately without it adversely affecting her own future retirement benefits, even if she hasn’t yet reached full retirement age. Keep in mind, however, that since she has yet to reach full retirement age (FRA), the survivor benefits would permanently be reduced. But this wouldn’t be much of an issue if she’s planning on switching over to her own retirement benefits at age 70.

This technique allows the surviving spouse access to Social Security funds now—the survivor benefits—while allowing her to continue to earn DRCs, increasing her own Social Security retirement benefits by 8% per year until she reaches age 70.

This technique is similar to the restricted spousal benefit technique, which we discussed here and here. However, to receive spousal benefits now and switch to your own benefits later, the spouse must have already reached FRA, which isn’t a requirement for the survivors switch technique discussed in this entry.

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Ask the Experts – June 6, 2014

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: I have a client who will turn 62 this year, and her husband is currently receiving Social Security disability benefits. Can she file for spousal benefits off his disability when she turns 62, and if so, can she switch to her own retirement benefits at age 66?

Answer: She may file for spousal benefits based on her husband’s disability amount starting at age 62, but in doing so, she is deemed to have filed for her own retirement benefits early as well, which will permanently reduce both her own benefits and her spousal benefits.

This is because spousal disability benefits work exactly like normal spousal benefits. That is, the Social Security Administration pays the spouse based on her own record first; but if the spousal benefit is larger than her retirement benefit based on her own record, she will be entitled to a combination of benefits that equals the higher amount.

For example, suppose your client’s husband is receiving $2,000 per month in Social Security disability, and your client herself has earned a $900 monthly benefit at full retirement age based on her own work record.

If she files for spousal benefits now, she will receive a $1,000 monthly benefit, reduced by 25% for filing early, resulting in a $750 benefit. This amount includes $675 from her own retirement benefits ($900 reduced by 25%), and the remaining $75 from spousal benefits ($1,000 less $900, reduced by 25%).

It might be advisable for her to wait until she has reached full retirement age, file for spousal benefits, and defer taking her own benefits until she’s age 70, at which point her own benefits will be $1,188 ($900 increased by 32% for delayed retirement credits).

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Ask the Experts – June 3

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: Can an individual collect spousal benefits now, and switch to her own retirement benefits at a later date?

Answer: Yes, but only if her spouse has filed for his own retirement benefits, and only if she, herself, has reached full retirement age (FRA).

First, spousal benefits are only available if the other spouse has filed for his or her own retirement benefits. This includes individuals who have elected to file and suspend their benefits—a strategy we discussed here.

Second, according to the SSA, if a spouse has reached FRA, she may choose to receive only her spousal benefit and delay receiving her own benefits. This strategy allows her to earn delayed retirement credits (DRCs) on her own account while still accessing some Social Security spousal benefits. If the spouse hasn’t yet reached FRA and files for spousal benefits, she is deemed to have filed for her own retirement benefits as well.

For example, assume wife’s own benefit at FRA is $880 per month, while her husband’s is $2,000 per month. If she files for spousal benefits at age 62, her benefits will be reduced by 25% to $750 (i.e. half of his $2,000 PIA, reduced by 25%). Of that $750, $660 is from her own retirement benefits (i.e. $880 reduced by 25%) while $90 is based on the husband’s retirement benefits (i.e. $750 less $660). Her own retirement benefits are permanently reduced and will not earn DRCs because she has begun receiving her own retirement benefits.

However, if she waits until FRA and is still eligible for benefits based on the husband’s record, she has the option to receive only the husband’s benefits and delay receiving her own benefits until a later date, allowing her own benefits to build up to age 70. Using the same numbers from above, this means she could receive $1,000 per month while still allowing her own retirement benefits to earn DRCs. If she delays filing for her own benefits until age 70, her benefits will increase by 32%, to $1,161.60 per month.

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Ask the Experts – April 21

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client is age 72 and has been taking RMDs from his IRA for a couple of years now. When he retires later this year, he will also be required to take RMDs from his employer-sponsored Section 403(b) annuity. When is his deadline to take the 2014 RMD for the employer-sponsored plan?

Answer: If your client retires this year, he is required to take the 2014 RMD by April 1, 2015. Any subsequent RMDs must be taken by December 31 of the year for which the RMD is required.

The fact that your client is already taking RMDs on his IRA does not affect the deadline to take his first RMD from the employer-sponsored plan. Therefore, your client should take his IRA RMD by December 31, 2014, and his 403(b) RMD by April 1, 2015.

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Ask the Experts – April 3

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client, age 62, is planning on working for the first half of this year and then retiring and filing for Social Security benefits. He expects to earn about $45,000 in the first half of the year. Will his Social Security benefits be reduced in 2014?

Answer: Probably not, but it depends on how much your client earns per month after he files for his retirement benefits.

Ordinarily, if an individual is younger than full retirement age (FRA), there is a limit to how much he can earn and still receive full Social Security benefits. If the individual is younger than FRA during all of 2014, the Social Security Administration (SSA) deducts $1 from the retiree’s benefits for each $2 he earns above $15,480. If he reaches FRA in 2014, the SSA deducts $1 from his benefits for each $3 he earns above $41,400.

Therefore, under the general rule, your client’s Social Security benefits would be decreased by about $15,000 on the year (i.e. the difference between his $45,000 yearly earnings and the $15,480 limit, divided by 2).

However, there’s a special rule that applies to the first year of retirement when the individual files for benefits mid-year. Under this rule, he can receive his full Social Security check for any whole month he’s retired, regardless of his first-half earnings, as long as he earns $1,290 or less each month thereafter. However, if the retiree earns more than $1,290 in any month, his Social Security benefit for that month will be completely withheld. After 2014, the $15,480 yearly threshold (indexed for inflation) will apply in until the year in which he reaches FRA.

Here’s an example from the SSA to provide further illustration of the rule:

John Smith retires at age 62 on October 30, 2014. He will earn $45,000 through October.

He takes a part-time job beginning in November earning $500 per month. Although his earnings for the year substantially exceed the 2014 annual limit ($15,480), he will receive a Social Security payment for November and December. This is because his earnings in those months are $1,290 or less, the monthly limit for people younger than full retirement age. If Mr. Smith earns more than $1,290 in either of those months (November or December), he will not receive a benefit for that month. Beginning in 2015, only the annual limit will apply to him.

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Ask the Experts – April 2

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client is 67, unmarried, and receiving Social Security retirement benefits. Are Social Security benefits included in his income when determining whether he can make either a deductible IRA contribution or a Roth IRA contribution based on his income?

Answer: It depends.

If a non-married individual is an active participant in a qualified plan and if he earns less than $60,000 of modified adjusted gross income (MAGI) in 2014, he may make the full $6,500 deductible IRA contribution ($5,500 if younger than 50). If he earns more than $60,000, the deductible amount is phased out until he reaches $70,000 in MAGI, at which point he can no longer make a deductible contribution to an IRA.

Similarly, if a non-married individual earns less than $114,000 MAGI in 2014, he may make the full $6,500 Roth IRA contribution ($5,500 if younger than 50). If he earns more than $114,000, his ability to contribute to a Roth IRA is phased out until he reaches $129,000 in MAGI, at which point he can no longer make a Roth IRA contribution.

For these purposes, MAGI is adjusted gross income (AGI) plus various additions. To help calculate MAGI, the IRS provides a couple worksheets in Publication 590 at page 17 (for traditional IRAs) and page 65 (for Roth IRAs); but for most taxpayers, MAGI is simply the taxpayer’s AGI.

The general rule is that Social Security retirement benefits are not included in a taxpayer’s AGI. However, once a non-married taxpayer earns more than $25,000, up to 50% of his Social Security benefits may be includable; and once he earns more than $34,000, up to 85% of his benefits may be includable. These thresholds are higher for married taxpayers filing jointly.

Let’s say your client earns $55,000 from his employment in 2014 while also participating in his employer’s 401(k) plan. Additionally, let’s say he receives $20,000 per year from Social Security. Because of his earnings, $17,000 of his retirement benefits (85% of $20,000) is included in his AGI. Therefore, his AGI on the year is $72,000 ($55,000 from earnings + $17,000 from Social Security), and he may not make a deductible contribution to a traditional IRA in 2014.

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Ask the Experts – March 19

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The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client, age 64, is receiving his Social Security retirement benefits early. He’s not working, but he is periodically taking distributions from his employer-sponsored retirement plan. Do these distributions reduce my client’s Social Security benefits?

Answer: No.

The general rule is that if an individual begins receiving Social Security benefits before his full retirement age (age 66 for your client), and earns more than $15,480 in 2014, then his benefits will be reduced by one dollar for every two dollars in earnings above the limit.

What income counts toward this $15,480 limit? Here’s what the Social Security Administration says:

If you work for someone else, only your wages count toward Social Security’s earnings limit. If you are self-employed, we count only your net earnings from self-employment. For the earnings limit, we do not count income such as other government benefits, investment earnings, interest, pensions, annuities and capital gains.

Therefore, your client’s retirement benefits shouldn’t be reduced merely because he is also receiving money from his retirement plan.

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