NCPA - National Center for Policy Analysis

Retirement Tax Hits Middle-income Payers

August 14, 2000

Should a family earning $60,000 to $70,000 a year pay taxes at a higher rate than a family with an income of two, three or four times as much? Thanks to Congress, that's what happens when they retire and start to collect Social Security, according to analysts.

  • Congress made up to 50 percent of all benefits taxable, then added a step that made up to 85 percent of all benefits taxable.
  • While it was described as a tax on high-income people, the law hits middle-income retirees.
  • This is because the tax is based on a formula that adds Social Security benefits to other sources of income.

Suppose a couple's dividend, interest and pension income rises from nothing to $100,000 -- including $22,000 in Social Security benefits, which is about what two average-income workers would receive. Here is what happens at different income levels:

  • At $15,000 in pension, dividend and income income, they owe $92 in income taxes; at $21,000, a portion of their Social Security benefits becomes taxable.
  • In effect, additional investment or pension income is surcharged, so the effective tax rate is 23 percent.
  • As other income reaches $35,000, the effective tax rate rises to 25 percent; as it rises to $50,000, up to 85 percent of their Social Security benefits become taxable, making their effective tax rate 42 percent.
  • However, over $50,000, each new dollar of income is taxed at only 28 percent, and other income can double to $100,000 before they start to pay taxes at a 31 percent rate.

As a result, the supposed tax on fat cats is really a tax on middle-income people who happen to be retired.

Source: Scott Burns, "Retiree Tax Has Plenty of Teeth," Dallas Morning News, August 13, 2000.


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