The Widow’s Penalty: What Every Survivor Needs to Know

The grief of losing a loving spouse is a unique pain. Unfortunately, as a surviving spouse in retirement must go onward, the taxable implications can be felt. This is often referred to as the “widow’s penalty.” We see a significant change, usually not for the better, for a surviving spouse.

It’s best to understand what that entails.

If you properly plan ahead, you can minimize or eliminate the impact of the penalty. 

Typically, a widow will see 4 different adverse effects with their taxes at their spouse’s passing. 

Those are:

1. The marginal tax brackets
2. Their IRMAA (Medicare) surcharges
3. The taxability of their Social Security
4. State Taxes

While any combination of these four may be felt, how significant the impact is will depend on the amount of income a surviving spouse has in addition to the planning that takes place.

The First Part of the Widow’s Penalty: Income Loss

The first thing we must account for is the income an individual may have after the passing of his/her spouse. In nearly every case, the loss of one or more guaranteed income streams will take place.

Pension Benefits

For a select few,  a dying spouse may have a guaranteed annuity or pension. 

Depending on the continuation option he/she chose at their retirement, the surviving spouse may notice this benefit will either continue 100%, a portion will continue, or this benefit could cease at the dying spouse’s passing.

Social Security Benefits

With Social Security, the benefit is almost assuredly reduced for the surviving spouse. 

If the spouse with the higher benefit dies, the surviving spouse can step up to that higher benefit. But he/she is only eligible to collect that benefit, not their previous benefit. 

For example, if the breadwinner spouse was collecting $3,000/month in Social Security benefits, and the homemaker spouse was collecting $1,500/month, the Homemaker spouse will only be able to collect $3,000/m at the breadwinner spouse’s passing. 

In the event the homemaker passes away, the guaranteed income stream ceases at his/her passing. 

As a result, there could be a drop in income that can vary, but can be significant. 

The Second Part of the Widow’s Penalty: Unfavorable Tax Brackets

Another way in which a widow(er) would be penalized is adjusting from married filing jointly to single brackets. 

As you can see by the comparisons below, Single Filers are taxed at a far higher rate than couples married filing jointly:

On top of this, the standard deduction for a couple married filing jointly is nearly double what it would be for a single filer:

• Single: $16,550 (Over Age 65)
• Married Filing Jointly: $32,300 (Both spouses over Age 65)

Retirement Account Transfers

As retirement accounts may transfer to the surviving spouse, what we must also understand is that RMDs are dependent on 2 factors – 1. The year end balance of the pre-tax account and 2. The IRA owner’s lifetime expectancy table. 

Therefore, if a surviving spouse inherits an RMD from a dying spouse, there could be a difference in the RMD, but it’s possible it can be a minimal difference. 

So what does this mean? This means that the income from the RMD may not be different at all. While that can seem like a good thing from a cash flow standpoint (and it is), it also means that there is likely to be no change in taxable income. 

Let’s take a look at an example using our tax planning software:

The couple has the husband pass away in 2023, which is the last year the surviving wife can file married filing jointly. After his passing, she is to file as a single filer in 2024.

The surviving spouse had her RMD increase due to a moderate year of market growth, but due to her stepping up to his benefit, she experienced a loss of the spousal Social Security benefit she was receiving. 

We’ll assume the husband chose the full 100% survivor pension benefit for his spouse, so there is no change to pension income.

We will assume that the capital gains will remain the same as the previous year.

As we can see in this example above, the surviving spouse has taken a $14k pay cut on her adjusted gross income, but has increased her total tax owed by almost $4500!

This spouse would also see a (potential) increase in her Medicare Parts B & D premiums.

The Other Penalties Associated With The Widow’s Penalty

Keep in mind, this also applies to capital gains brackets, so individuals who may have a taxable account could potentially still feel this effect.

For couples who were relying on capital gains income, this is again felt by the surviving spouse.

Medicare Premium Surcharges

Surviving Spouses may also be punished on their Medicare Premium Surcharges (Otherwise known as Income Related Monthly Adjustment Amount – IRMAA). 

This applies to Modified Adjusted Gross Income, and it’s different from taxable brackets in that the premium differences don’t utilize marginal brackets, but rather, a cliff schedule. In other words, if you’re one dollar over the threshold, you’re subject to the full penalty.

Taxable Social Security Benefits

The third factor that may affect those who are not higher income earners or those with a sizable pre-tax account is their Social Security taxability. 

We did a video on provisional income and how to calculate that, which you can check out here but the important thing to note is that the thresholds for provisional income can be crossed easier for single filers as opposed to married filing jointly filers. 

The decrease in SS benefits could help lower provisional income. This may or may not impact a surviving spouse.

But this decrease in the provisional income brackets could bump a spouse into the 85% threshold.

State Taxes

Lastly, state taxes will play a role as well. 

For states which tax retirement income, you’re likely to see a change in your marginal rate, specifically if you notice that your state follows a similar progressive tax system as we see at the federal level. 

Working with a CPA to help manage this is a good idea, because measuring the income this could have at the state level may mean you should consider adjusting your withholdings throughout the year.

Can You Avoid The Widow’s Penalty?

The best way to help manage this is to diversify your income sources. While that is a necessity when managing stock market risk, diversifying your income sources will also have an impact on the taxable income you will bring in, thus impacting your taxable liability. 

If the only sources of income you may have are from Social Security and a pre-tax IRA or 401(k), you may want to consider planning while you’re both living to minimize the impact of your lifetime taxable liability. 

If you need help with that, my team and I at Hyperion Financial work with couples to help solve potential problems just like these.