Self-Employed? Don’t Miss Out on Your Future Social Security Benefits by Filing Your Tax Returns Too Late

Taxpayers who don’t file their returns on time may think that the late filing/payment penalties and interest are the worst part about filing tax returns well after the deadline. But self-employed taxpayers should be aware of another harm that could haunt them in the future: losing out on Social Security retirement benefits.

By way of quick background, to be eligible for Social Security retirement benefits, a person must have wages or net self-employment earnings for 40 quarters (i.e., earn 40 “credits”).

For self-employment earnings be credited for future Social Security benefits, self-employed taxpayers must report their earnings on Form 1040, using Schedule C (or F for self-employed farmers) and Schedule SE, Self-Employment Tax within 3 years of the April 15th deadline for the tax return.  In other words, taxpayers will not receive credit for the earnings which are needed to qualify for Social Security benefits if their tax return is more than 3 years late.   Filing a tax return more than three years late could not just affect eligibility for benefits, but also the benefit amount as Social Security retirement benefits are determined in part on the amount of earnings/wages.  The bottom line is that if amounts are not reported to Social Security and credits are not properly reflected, a taxpayer could lose out on benefits altogether or have his/her benefits significantly reduced.

Is there a way around this harsh result?  42 U.S.C. § 405 lays out the law on this issue. See § 405(c)(1)(B), (c)(4), (c)(5)(F). Section 405(c)(1)(B) specifies the time period within which wages or self-employment earnings must be reported. The statute allows the Secretary to make certain corrections for wages when a taxpayer files a return more than three years late, but it’s only for wages. The Secretary “may change or delete any entry with respect to wages or self-employment income…but only–to conform his records to tax returns or portions thereof filed with the Commissioner of Internal Revenue…except that no amount of self-employment income of an individual for any taxable year (if such return or statement was filed after the expiration of the time limitation following the taxable year) shall be included in the Secretary’s records.” 42 U.S.C. § 405(c)(5)(F). The text of the statute indicates there is no opportunity for relief from this result.  

Some taxpayers have challenged the filing requirement, primarily arguing that the IRS timely received notice of the self-employment income through some other mechanism (e.g. 1099s filed by payors, etc.), but they have had varied success. Compare Grigg v. Finch, 418 F.2d 661 (6th Cir. 1969) (self-employed taxpayer prevailed in persuading court that self-employment income reported on 1099s and not personal tax return filed within time limitation was acceptable reporting for social security purposes), with Yoder v. Harris, 650 F.2d 1170 (10th Cir. 1981) (1099s not sufficient to count for social security purposes where self-employed taxpayer did not file returns within time limitation). Social Security adopted the holding of Yoder at Soc. Sec. Rul. 82-20c. So, unfortunately for self-employed taxpayers, correcting the harsh result through Social Security is likely to have little success and the chances in litigation are uncertain at best.

The best and safest bet is to file returns within three years after the due date to ensure receiving proper credit for future Social Security benefits.  Otherwise, self-employed taxpayers’ Social Security credits will likely be forever impacted and the consequence could be severe: no Social Security retirement benefits at all (if under 40 credits are reported), or a substantial reduction in benefits.