We have had many posts on the myriad of consequences of filing late tax returns. One we have not discussed results when a self-employed taxpayer files more than three years late. In that situation, the individual must still pay the self-employment tax; however, the individual receives no social security benefits as a result of those payments. As the economy drives more and more individuals into jobs in which they have independent contractor status, the importance of filing on time increases in order to preserve future benefits available to those who qualify for social security.
When a non-filer shows up, sometimes we triage their return for the year in which the refund statute of limitations will soon expire. If it appears that the taxpayer will receive a refund, a last minute push occurs to send that return in before the expiration of the statute of limitations which is generally three years from the due date of the return. If it appears that the taxpayer owes money, the same last minute push may not occur. Because filing the return before three years from the original due date could preserve for the individual the ability to get credit for self-employment earnings for purposes of calculating the amount of social security they will receive, or even whether they will qualify for social security, the practitioner who has the chance to file the return before three years from the due date of the original return should make every effort to do so.
read more...In order to receive social security benefits based on age, an individual must accumulate 40 quarters of earnings. To receive social security disability benefits, the individuals needs 32 quarters. In 2017, an individual receives credit for a quarter of social security earnings if they have $1,300 of qualified earnings. Anyone earning more than $5,200 in 2017 will receive four quarters of credit – the most quarters it is possible to earn in a single year. In addition to meeting the number of quarters necessary to obtain benefits, an individual receives social security benefits based on the amount of their earnings. While the formula skews towards individuals at the lower end of the earnings spectrum by giving a higher return on those earnings in calculating the benefits, the more a person earns the higher their social security benefits.
Here are the directions from Social Security on how to calculate your projected benefit. You can find Column A and B here. I include this primarily to show how valuable the lower earnings are to someone compared to the earnings over $5,336 and how the benefit skews to provide the greatest assistance to those who will likely have the greatest need.
Step 1: your earnings in Column B, but not more than the amount shown in Column A. If you have no earnings, enter “0.”
Step 2: Multiply the amounts in Column B by the index factors in Column C, and enter the results in Column D. This gives you your indexed earnings, or the estimated value of your earnings in current dollars.
Step 3: Choose from Column D the 35 years with the highest amounts. Add these amounts. $_________
Step 4: Divide the result from Step 3 by 420 (the number of months in 35 years). Round down to the next lowest dollar. This will give you your average indexed monthly earnings. $_________
Step 5:
- Multiply the first $885 in Step 4 by 90%. $_________
- Multiply the amount in Step 4 over $885, and less than or equal to $5,336, by 32%. $_________
- Multiply the amount in Step 4 over $5,336 by 15%. $_________
Step 6: Add a, b, and c from Step 5. Round down to the next lowest dollar. This is your estimated monthly retirement benefit at … your full retirement age. $_________
The aged based benefit is calculated based on the highest 35 years of earnings. Some of my earnings from the 1960s and 1970s when I worked summer jobs while going to school and a quarter of earnings could accumulate for $250 will not do much to push up my high 35 years of earnings, but these quarters did provide a benefit to me in reaching the 40 quarters because all of my earnings when working for the federal government involved no social security taxation and therefore no buildup of earnings or quarters. Federal employees hired starting in the mid-1980s do pay social security, but some state and local government employees may still be outside of the social security system from their primary earnings. Some of my clients have not yet earned enough quarters to receive any social security benefits. Making sure that they understand the importance of earning enough quarters and the link between filing their tax return and earning quarters is something we try to impart.
What can you do if your client has failed to file their return within the normal time period for having their earnings count toward social security? Several exceptions apply to individuals in these circumstances; however, the exceptions are narrow:
After the time limit has passed, earnings records can only be revised under the conditions described below and in §1425:
1. To correct an entry established through fraud;
2. To correct a mechanical, clerical, or other obvious error;
3. To correct errors in crediting earnings to the wrong person or to the wrong period;
4. To transfer items to or from the Railroad Retirement Board (if reported to the wrong agency), or to add railroad earnings to Social Security earnings records when the law permits;
5. To add wages paid in a period by an employer who made no report of any wages paid to the worker in that period, or if the employer is increasing the originally reported amount for the period;
6. To add or remove wages in accordance with a wage report filed by the employer with IRS; or, if a State or local governmental employer, with SSA if the report is filed within the time limitation specified for assessment, refund, or credit under a State’s coverage agreement;
7. To add self-employment income in a taxable year if an individual or the individual’s survivor establishes that:
(1) A self-employment tax return for that year was filed before the time limit ran out; and
(2) Either no self-employment income for that year has been recorded in the individual’s earnings record, or the recorded self-employment income for that year is less than the amount reported on the self-employment tax return; or
8. To add self-employment income for any taxable year up to the amount of earnings that were wrongly recorded as wages and later deleted. This can be done only if a tax return reporting such self-employment income is filed within three years, three months, and 15 days after the taxable year in which the earnings wrongly recorded as wages were deleted. The self-employment income must:
(1) Be for the same taxable year as the year in which the wages were removed; and
(2) Have already been included on the individual’s Social Security record.
9. Prior to the expiration of the time limit the worker or the worker’s survivor has:
(1) Applied for benefits and stated that the earnings for a year(s) were incorrect; or
(2) Requested a revision of his or her earnings record for a year(s).
The time limit can also be extended if an investigation was in progress. Because of the manner in which social security benefits work, it may not be the taxpayer who wants or needs to correct the social security records. It could be a spouse or a child or someone else who can obtain benefits derivatively from the individual with the earnings.
Some sources for correcting the social security statement can be found here, here and here.
In the days when the Social Security wage base was much lower it was common for an employee who changed jobs in during the year to have excess Social Security withholding. While this could be claimed as a credit on the income tax return, it was often missed. I assume that issue arises less frequently now, particularly for LITC clients.
Here is the time provision from the Social Security Handbook for those looking for a shortcut to the explanation. https://www.ssa.gov/OP_Home%2Fhandbook/handbook.14/handbook-1423.html
1423.1
What is the time limit for correcting earnings?
An earnings record can be corrected at any time up to three years, three months, and 15 days after the year in which the wages were paid or the self-employment income was derived. “Year” means “calendar year” for wages and “taxable year” for self-employment income. If the last day of that period falls on a Saturday, Sunday, legal holiday, or other non-work day for Federal employees set by statute or Executive Order, the period for correction is extended to the end of the next work day.
At this time last year I was helping a 27-year-old qualify for disability benefits by filing three years of returns to report self-employment income from 2014 through 2016. We filed the returns in January, but the earnings credits were not on record when the initial application was made in March. The process has since been delayed by health problems. Here is what I found out about younger applicants:
The number of work credits needed for disability benefits depends on your age when you become disabled. Generally, you need 40 credits, 20 of which were earned in the last 10 years ending with the year you become disabled. However, younger workers may qualify with fewer credits.
The rules are as follows:
Before age 24 – You may qualify if you have 6 credits earned in the 3-year period ending when your disability starts.
Age 24 to 31 – You may qualify if you have credit for working half the time between age 21 and the time you become disabled. For example, if you become disabled at age 27, you would need credit for 3 years of work (12 credits) out of the past 6 years (between ages 21 and 27).
Age 31 or older – In general, you need to have the number of work credits shown in the chart below. [The chart is at]
https://www.ssa.gov/planners/credits.html
As for part-time earnings long ago, “For years before 1978, an individual generally was credited with a quarter of coverage for each quarter in which wages of $50 or more were paid, or an individual was credited with 4 quarters of coverage for every taxable year in which $400 or more of self-employment income was earned.” Not only could $200 earn four quarters, if spread evenly through the year, but the calculation of current benefits has a “multiplier” factor to take into account inflation since then. For example, in 2018 this indexing factor considers $1,000 earned in 1970 to be $7,863 when benefits are calculated.
Of course, federal retirees may qualify for Social Security based on earnings outside the former Civil Service system, when wages were exempt from FICA taxes. But benefits are substantially reduced by the Civil Service pensions they receive. I should add “generally,” because the rules are complicated.