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What’s best for mom in Mom-

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POSTED February 17, 2012 8:56 p.m.

Q: My wife and I are in our 30s. We're partners in a business that nets us about $80,000 per year. What's the best way to report our income on our tax returns to maximize our Social Security benefits?

A: Even though you're asking about your future Social Security benefits, I don't like giving tax advice because I'm definitely not a tax expert. So your question really should be directed to a tax advisor or to someone at the Internal Revenue Service. But before you do that, I can give you some food for thought that comes from a potential Social-Security-benefit perspective.

I'll offer you a couple of examples that show how your Social Security benefits might play out, depending on how you report your business income to the IRS. Please bear in mind that the numbers I give in the examples (especially the benefit projections) are really generalizations. But at least they'll give you an idea of what I'm talking about.

PLAN A: You split the business income equally between you and your wife.

If you do indeed have a partnership and you and your wife are participating equally in the business, I believe this is the proper way to handle your taxes. In other words, both you and your wife would claim half (or $40,000 each) of your $80,000 net profit. The Social Security part of a self-employment tax return is called the Schedule SE. Each of you would file a Schedule SE reporting $40,000 to your respective Social Security accounts.

That means that when you hit retirement age, both you and your wife should have roughly equal Social Security retirement benefits. (Of course, your actual benefit amounts could be impacted by other variables, such as your dates of birth and any other income each of you might have before or after your business venture.) But for the purposes of my example, I'm just going to assume you're about the same age and your non-business incomes are about equal. So let's just say, using today's dollars, that you end up with $1,500 per month each in a Social Security retirement benefit. Your total Social Security income would be $3,000 per month.

PLAN B: You report all the business income on the Schedule SE under your name and your Social Security number.

Whether or not you can actually do this is a question for a tax expert. But I can tell you that in my long career with the Social Security Administration, I saw thousands of tax returns (submitted as part of a Social Security retirement claim) in which this was done.

When you reach retirement, you'd end up with a much higher retirement benefit (let's say $2,400 per month). And because your wife has no Social Security on her own record, she would be due up to one-half of your benefit — or $1,200 per month in dependent wife's benefits. Your total Social Security income would be $3,600 per month.

So at first glance, you would say that's a no-brainer: filing your taxes as Plan B is the better choice — from a Social-Security-only perspective.

But from your wife's perspective, the Plan B scenario could turn out to be a big mistake. Over my 40-plus-year career dealing with Social Security issues, I've heard from thousands of women who were involved in a mom-and-pop business where Pop employed Plan B (i.e., he took all the Social Security credit on their tax returns). And in many of these instances, the couple ended up divorced.

And guess what happens to poor old Mom? She has little or no Social Security credit for all the years of work she put into the business, which means she has little or no Social Security retirement. If Mom never remarries, there is a chance she might collect divorced spousal benefits on your account. But it often ends up being a meager return for her many contributions to the business.

However, let's say you can absolutely guarantee that you and your wife will remain in wedded bliss forever. There are still a couple other reasons why Plan B may not work out for you.

One is the issue of Social Security disability benefits for your wife. We all don't stay healthy until our golden years. There is a decent chance your wife might become disabled before reaching her mid-60s. Under Plan B, she would have absolutely no disability coverage from Social Security (because she wasn't paying into the system), whereas under Plan A, she would qualify for monthly Social Security disability benefits if something happens to her — and that could potentially be very valuable coverage for her and your family.

And speaking of family, you also have to consider the possibility that mom might die. For example, if she passes away in her early 40s and you have a couple of young kids still at home when that happens, Plan B would provide no monthly survivor benefits for the children. But Plan A would be like setting up a little life insurance policy — a policy that could be worth hundreds of thousands of dollars over the years to your family.

As I said, many times over the years, I've seen Mom getting the short end of the Social Security stick in a mom-and-pop business because husbands and/or their accountants employed Plan B without thinking things through. So you and your wife need to talk things over and then consult a good tax advisor.

 

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