One of the most overlooked items in retirement is income tax. Inflation and taxes are the two biggest drags on your retirement plan. With a little planning, you can ensure you are doing everything possible to managing your income tax liabilities and cut Uncle Sam out of your retirement.
You’ve heard portfolio diversification discussed ad nauseum over the years, but I am willing to bet you have never heard of tax liability diversification. There are different tax liabilities associated with each source of retirement income – social security, pensions, IRA/401ks, Roth IRAs, and taxable accounts. Proper advanced planning will enable you to build your retirement income plan in such a way to manage your overall tax liability and provide you with more resources to enjoy your retirement.
Up to 50% of your social security benefits may be taxable for individuals earning more than $25,000 per year and couples earning more than $32,000. For individuals earning more than $34,000 and couples earning more than $44,000, up to 85% of your benefits may be taxable. One strategy to delay this tax bill is to delay taking your benefits until age 70. This not only allows you to delay the tax liability but also realize the increased social security benefits.
Distributions from traditional IRA accounts and 401k accounts will be included in your taxable income and taxed at your income tax rate. On the other hand, Roth IRA and Roth 401k distributions will be completely tax-free. Developing the right mix of traditional and Roth accounts will provide a great deal of flexibility in managing your tax bill in retirement.
Lastly, your taxable brokerage account may generate taxable income from dividends or interest earnings. Additionally, you will have capital gains in this type of account which can be taxed at 20% for long term capital gains (investments held for 12 months) and in some cases 15% or even 0%. Short term capital gains are taxed at your income tax rate. With proper management of these accounts, you can maintain a very low tax liability.
There are some excellent planning strategies available if you are working with someone that understands tax laws, retirement plan rules, social security tax rules, and the ability to put them all together. With my accounting and CPA background, I have been helping clients create tax-efficient retirement income plans for over 20 years.
Before you cash your first Social Security check or start taking distributions from retirement accounts, contact WealthCharter Retirement Planning.