Tax Tips After You Retire

Updated for Tax Year 2017


OVERVIEW

Even if your current retirement income plan doesn't provide maximum tax benefits, you can still restructure your payment strategies to optimize your tax results.


When you start putting money away for retirement, you might be thinking of the current tax benefits or consequences that arise from your savings options, and not necessarily how your distributions will be taxed after you retire. However, you can still restructure your payment strategies to optimize your tax results even if your current retirement income plan doesn’t provide maximum tax benefits.

Watch your Social Security and other income combinations

If you worked for someone else or had net profits from self-employment before you retired, you’re probably eligible to receive Social Security benefits during retirement. Your Social Security benefits might be taxable, depending on how much income you (and your spouse if you file a joint return) have from other sources.

Between 50 and 85 percent of your annual benefit is taxable when the sum of one-half of your Social Security income, plus income from other sources is more than $25,000—or $32,000 if you’re married and file a joint return; or $0 if you file separately from your spouse. To reduce the risk of paying tax on your Social Security benefits, limit your income from other retirement plans (or wages from a part-time job) to ensure that you stay within the income limit.

Limit income from pretax retirement plans

If you have funds in a pretax plan, such as a 401(k), withdrawals you make from the plan after you retire are subject to income tax. Your plan administrator will typically deduct 10 percent from any distribution amounts to cover taxes but, depending on your tax bracket, this may not be enough to cover your bill.

Ultimately, your tax rate is based on all your taxable income during the year. If you have multiple sources for retirement income, you’ll save on your tax bill if you limit distributions from pretax plans to only amounts you need or are required to withdraw.

Understand your traditional IRA tax treatment

Traditional IRA distributions may be fully, partially, or not taxable depending on how you treated your contributions before you retired. If you took a tax deduction for contributions you made to the plan in prior tax years, your distributions are taxable when you withdraw them, up to the amount you previously deducted.

Traditional IRA contributions are made with after-tax dollars, so if you did not take a deduction for some or all of your contributions, the withdrawals you make of these non-deducted contributions are not taxable. That is because you already paid tax on the money you put in the account, and didn't receive a tax benefit for those deposits. Similar to 401(k) plans, if you deducted traditional IRA contributions from your income in earlier tax years, limit your retirement withdrawals to reduce your potential tax burden.

Maximize your tax benefits with Roth IRA distributions

Contributions you make to a Roth IRA account are made with after-tax dollars, and you don’t have the option of deducting these contributions from your income. This makes withdrawals from a Roth IRA during retirement totally tax-free. According to IRS enrolled agent Brittany Brown, “Roth IRA withdrawals give the best of both worlds to retirees. You get regular retirement income and no income tax. This is important for seniors because there just aren’t a lot of tax credits or deductions available for people who have unearned income and no longer have dependents to claim.”

Increase your retirement income options and decrease your future tax consequences by drawing from a Roth IRA or contributing to a Roth IRA for future use.

Convert pretax plans to a Roth IRA

If you want to move your retirement funds from one type of plan to another, the IRS allows you to do this. You can, for example, convert funds from your 401(k) account or traditional IRA account to a Roth account. Recharacterizing your funds will reduce future tax liabilities, but in the year of the conversion, you’ll pay tax on any pretax funds you convert.

Prepare for required minimum distributions

Most retirement plans (except for Roth IRA plans) are subject to "required minimum distributions. Beginning on April 1 of the year after you reach age 70 1/2, you must withdraw a minimum amount from your retirement plan or the IRS can assess a penalty against you. If you are still working, you can delay withdrawals from 401k plans but not from IRAs. To avoid this penalty, use the RMD calculator on the IRS website to determine when you should start taking RMDs and the amount you must withdraw.

Diversify your retirement income

To maximize retirement income, Brown says it’s important to diversify your income sources when possible. “If you have money coming from different retirement sources, try to take a little from both your taxable and nontaxable sources. You must meet your RMD requirements, but when you mix it up a little, you’ll keep your taxable income margin low, and this keeps your overall tax bill low.”

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The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business.


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