Back to Work? When an Encore Career Just Doesn’t Pay

Working in retirement can stretch your budget and your mind. But there are tax, IRA withdrawal, and Social Security benefits to consider.
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Collecting paychecks into retirement has plenty of pluses that include swelling your budget or keeping you on top of your game, either by prolonging your career or letting you jump into an encore career. But it also can cost you money—in work-related expenses, lost Social Security benefits, and added taxes. Working can even put you into a higher tax bracket in retirement, so it’s best to crunch the numbers before taking a job in your golden years.

The nuances tied to your return-to-work plan will hang on factors like your age, whether you’re collecting Social Security distributions, are covered by Medicare, and what other sources of income—such as Individual Retirement Accounts (IRAs), pensions, or annuities—you may have.

Social Security, pensions, and annuities all carry their own tax obligations that are different from earned income. And, of course, tax brackets differ for single folks compared with married couples or married folks filing single.

Here are some questions to consider.

What? My Social Security benefits are taxed?

Yes, indeed, for most. Although you contributed to the funds through a federal payroll tax, it’s considered a collection tied to the benefit. Up to 85% of the benefit could be taxable, depending on your filing status and combined income, according to the Social Security Administration (SSA).

Will working after retirement cost me Social Security benefits?

A qualified “yes.” It depends on whether you took retirement benefits before reaching your full retirement age and if you exceed the earnings limits set by the SSA, but you will get it back.

You can start collecting benefits as soon as age 62, although they’ll be reduced because it’s ahead of your full retirement age (FRA). FRA for those born in 1954 or before is 66 years old. It rises in two-month increments per year for those born between 1955 and 1959, culiminating at age 67 for those born in 1960 and after.

If you’re younger than your FRA, $1 in benefits is deducted for every $2 you earn above the annual limit, which in 2015 is $15,720. If you reach FRA this year, SSA will subtract $1 for each $3 you earn above $41,880 until your birthday month. Once you’re in FRA territory, you can earn away and not worry about losing Social Security benefits—plus, your benefits will rise to reflect your now-bigger contribution.

If you started collecting Social Security early and figure that going back to work will wipe out the benefit, there’s a one-time way around that. However, it’s only good for the first year of benefits and is limited to one year’s worth. How does it work? You can pay SSA back, without interest or fees, and delay your retirement, say until you’re 70. That’s when you’re eligible for your biggest monthly Social Security payout.

Does SSA count more than wages as income?

Nope. That’s the good news. Only your wages count if you’re working for someone else; only net income counts if you’re self-employed. Investment earnings, interest, pensions, annuities, capital gains, and other government benefits are not counted as income.

What about Medicare?

This can be a crapshoot depending on the size of the company you’re working for and its insurance coverage for Medicare-aged workers. If you’re already on Medicare, your best bet is to double-check your coverage under Plan A, Plan B, and any Plan D coverage you might have against a group health insurance plan. Typically, however, employee coverage is cheaper and more comprehensive than Medicare-related coverage.

You must file for Medicare coverage within three months of turning 65 or you will be penalized with higher fees for the rest of your life. If you’re covered by a workplace plan, you don’t have to take Medicare just yet, but let the SSA know what you’re doing.

A quick note on taxes: Your employee plan uses pre-taxed wages to cover your insurance; Medicare premiums are not tax deductible unless they exceed 7.5% of your income.

Can I still collect a pension and return to work?

In most cases, yes, you can receive a pension from a former employer and a salary from a new one.

Some plans require you to suspend your pension until you retire while you continue to add to it. Others max out at, say, 30 years and working beyond that for the same company will do you no good. And still others are based on a percentage of your last years of service, meaning if you continue working, but at reduced hours or lower earnings, you’re hurting your overall take on the benefits.

Again, remember that taking pension disbursements while collecting a salary can lift you into a higher tax bracket.

Impact on tax-deferred savings, including traditional IRAs?

This can be among the biggest “gotchas” that retirees face when they stay in the workforce and are collecting salaries beyond age 70 1/2. That’s when the required minimum distributions from an IRA kick in. Remember too that your contributions to your IRA are tax free, so eventually you’ve got those taxes on top of earned income to look forward to.

Although RMD rules do not apply to Roth IRAs while the owner is alive (you paid taxes on that at the time of contribution), they do apply to Simple Employee Pension plans (SEPs), Salary Reduction Simplified Employee Pensions (SARSEPs), and Simple IRAs, according to the IRS.

Does the same hold true for 401(k)s?

Not usually. You should be able to shelf RMDs from qualified employer plans until after you retire, but do check with your plan administrator first.

What about annuities?

Annuities are fast becoming a popular choice for another stream of retirement income, but they can be complicated beasts and fee-heavy. Typically, your investment grows without taxes, but when you tap on the gains, you will be taxed at a regular income tax rate. The amount you contributed is not taxed, but check with a tax expert or CPA for the latest laws.

Other worries?

State taxes are a whole other ball of yarn, depending on where you live. Retirement havens like Florida, Texas, and Nevada, for example, won’t take a cent of your income. Texas also eschews inheritance and estate taxes, although its sales tax is relatively high at 6.25%, according to Kiplinger.

So, weigh the pros—including potentially building a fatter nest egg and waiting to draw down on retirement funds—against the potential push into a higher tax bracket. That IRS bill will eat away at earnings and other retirement benefits. It’s a personal decision, for sure, but one that could benefit from a chat with a tax professional.

Hands-On Retirement Planning

Retirement planning isn’t a set-it-and-forget-it proposition. Your plans take thoughtful care and the help of professionals.

The information presented is for informational and educational purposes only. Content presented is not an investment recommendation or advice and should not be relied upon in making the decision to buy or sell a security or pursue a particular investment strategy.


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