Is SSDI Income Tax Exempt?
How SSDI benefits are taxed depends on several factors; usually backpay isn’t subject to taxes while ongoing monthly benefits might be.
The Social Security Administration withholds taxes from SSDI payments to help ensure individuals meet their federal income tax obligations. People receiving SSDI may work with a financial advisor to find solutions that reduce their tax liabilities.
State Income Taxes
SSDI payments are subject to federal taxes, while state and local income taxes may also be applicable. Amounts due in these instances should be included on Box 5 of an SSA-1099 statement sent annually by Social Security; individuals should also report them when filing their tax returns.
SSDI recipients who exceed $25,000 of total annual income (including half their disability benefits) or $32,000 when filing jointly are subject to taxation on all their Social Security disability benefits; however, most disabled people typically don’t reach these thresholds due to other sources of income like tax-exempt dividends and interest income.
In certain states, the IRS can collect up to 15% of monthly SSDI payments as a lien on delinquent taxes for those receiving lump-sum back pay or ongoing SSDI benefits. This collection may be challenged by recipients using various resources available to them to avoid paying too much in taxes.
Social Security Administration (SSA) offers back pay to disability recipients who were denied benefits during the five month waiting period they were expecting them. Back pay can be calculated by taking into account an established date of disability (known as EOD or disability onset date) and subtracting five months as waiting period.
Dependent upon the amount of back pay received, Social Security Administration (SSA) may require that a representative payee fill out an annual tax report detailing how it was spent. This allows SSA to monitor how this disability fund is being spent.
SSDI recipients should understand how their income will be reported on federal tax returns, and can seek assistance from a qualified accountant when filing their taxes correctly and potentially limiting tax liabilities related to SSDI payments. A tax professional may also advise how best to invest any remaining disability payments for long-term growth.
Taxes at the Federal Level
SSDI benefits may be exempt from federal taxes in most cases; however, this depends on two factors: which type of disability benefit and household income are received.
If your household’s total income exceeds certain thresholds established by the Social Security Administration (SSA), some or all of your SSDI may become taxable. This typically happens if you were awarded large lump-sum back payments that increased your income during that particular year.
If this situation concerns you, consult with a lawyer and accountant immediately. In some instances, back pay owed from prior years may be applied towards past tax returns in order to reduce taxable income; this could allow you to reduce or avoid paying taxes on up to 85% or 50% of benefits paid out to you and might qualify you for the federal Credit for Elderly and Disabled.
Taxes at the State Level
SSDI benefits may not be tax exempt, yet most recipients do not pay taxes on them due to having household income that falls well below the threshold that makes SSDI taxable.
Sometimes a portion of SSDI benefits is subject to taxation if an individual’s household income surpasses certain thresholds based on their tax filing status. This may happen if there are additional sources of income such as dividends or tax-exempt interest payments; or if their spouse earns significant sums.
State income taxes vary considerably across states. While some use federal-style brackets and rates, others use more complex systems with multiple tax brackets and higher top marginal rates. Click here for more details of how state’s handle social security disability taxation. It is vital that recipients consult a tax professional in order to avoid overpaying on benefits received.