While the record-high 8.7% Social Security cost-of-living adjustment (COLA) in 2023 provided much-needed relief from inflation, it may have an unintended consequence: significantly higher tax bills for many retirees this year.
The issue stems from the fact that the income thresholds at which Social Security benefits become taxable have remained unchanged since 1984. Up to 85% of benefits can be taxed depending on a recipient's combined income (half their benefits plus other income sources).
For individuals, benefits become taxable when combined income surpasses $25,000 ($32,000 for married couples filing jointly). At combined incomes over $34,000 for individuals and $44,000 for couples, up to 85% of benefits are subject to taxation.
Inflation's Impact: More Seniors Facing Tax Hikes
Financial experts and senior advocacy groups warn that last year's historic COLA, coupled with ongoing inflation, is pushing more retirees into higher tax brackets. "A huge bump in the number of people who will be paying taxes on their Social Security benefits this year is almost guaranteed," states Shannon Benton, executive director of the Senior Citizens League.
Data supports this bleak forecast. A 2023 survey by the Senior Citizens League found that 23% of those receiving Social Security for three or more years paid taxes on their benefits for the first time. With many seniors already struggling to make ends meet, this additional financial burden could prove critical for those living on fixed incomes.
Legislative Solutions Proposed, but Challenges Remain
Lawmakers on both sides of the aisle have proposed abolishing taxes on Social Security benefits entirely. However, their plans for offsetting the revenue loss differ significantly. Rep. Angie Craig (D-MN) advocates funding the change through general treasury transfers and extending payroll taxes to earnings above $250,000. Rep. Thomas Massie (R-KY) backs eliminating these taxes without new revenue sources, relying on transfers outside the Social Security trust funds.
While popular with voters, these proposals face an uphill battle. "They're really popular messaging bills, but that doesn't translate to a high probability of legislative success," observes Emerson Sprick, associate director of economic policy at the Bipartisan Policy Center. He highlights the unpopularity of general fund transfers to prop up Social Security within Congress.
Beyond Taxes: COLA's Unintended Consequences
The Senior Citizens League highlights that even the current 3.2% COLA in 2024 could further exacerbate this tax issue. They support indexing future adjustments specifically to the Consumer Price Index for the Elderly (CPI-E) to more accurately mirror seniors' true economic realities.
Experts also warn that larger COLAs could reduce eligibility for means-tested programs like SNAP (food stamps). This underscores the complex trade-offs seniors face when higher monthly benefits ultimately diminish their overall purchasing power.
