For many retirees, the focus often shifts from growing your savings to making your money last. One of the most overlooked yet critical parts of this process is how you withdraw your money. Tax-efficient withdrawal strategies can help you avoid higher taxes and reduced retirement income. Let’s explore the basics of tax-efficient retirement withdrawals and practical tips to help retirees keep more of what they’ve saved.
Understanding Tax Buckets
A good starting point is to understand the three main types of accounts retirees typically hold:
- Tax-deferred accounts like traditional IRAs and 401(k)s: You contributed pre-tax dollars, so withdrawals are taxed as ordinary income.
- Tax-free accounts like Roth IRAs and Roth 401(k)s: Contributions were made after taxes, so qualified withdrawals are generally tax-free.
- Taxable brokerage accounts: You pay taxes on dividends, interest, and capital gains but have more control over when taxes get triggered.
Strategizing When to Withdraw from Accounts
Strategically deciding which account to withdraw from and when can help minimize your tax burden over time. One common rule of thumb is to withdraw in the following order:
- Taxable accounts first: This allows tax-deferred accounts to keep growing while you pay lower capital gains taxes rather than ordinary income tax.
- Then tax-deferred accounts: Eventually, you’ll need to start taking Required Minimum Distributions (RMDs), typically starting at age 73, so these can’t be deferred forever.
- Tax-free accounts last: Roth accounts can continue growing tax-free, so they’re typically the last to be tapped and can even be passed on to heirs more favorably. This also gives flexibility in the overall strategy when dealing with Required Minimum Distributions (RMD’s), because Roth’s do not require RMD’s.
When to Consider Roth Conversions
If you retire before your RMDs kick in, you may find yourself in a lower tax bracket for a few years. This can be an ideal time to convert money from a traditional IRA to a Roth IRA. Why convert to a Roth IRA? You’ll pay taxes now on the conversion amount, but future growth and withdrawals from the Roth account will be tax-free. Roth conversions are not one-size-fits-all, so careful tax planning is key. A financial professional can help model different scenarios.
Watch Out for Tax Traps
Retirees often face hidden tax pitfalls that aren’t obvious until they hit:
- Social Security Taxation: Up to 85% of your Social Security benefits could be taxed if your income exceeds certain thresholds.
- Medicare Surcharges: Higher income can trigger increased premiums for certain types of Medicare.
- Capital Gains Brackets: Long-term capital gains are taxed depending on income, so staying within a lower bracket can save thousands.
Blending Withdrawals Strategically
In some cases, blending withdrawals from multiple accounts can create the most tax-efficient advantages. For example, you can pull from a traditional IRA to fill up a desired tax bracket. You can also try to supplement with Roth IRA withdrawals to avoid jumping into a higher bracket. The right mix will depend on your income needs, tax situation, and long-term goals, which is why it’s helpful to work with a retirement planner to determine what will work best for you.
Visit Retire Wise for Retirement Strategies
A tax-efficient withdrawal strategy can significantly improve how you manage your retirement income. It’s not just about how much you saved; it’s about how and when you access those funds. Because tax laws and personal circumstances can vary, working with a professional who understands retirement tax planning can help you make informed, confident decisions. At Retire Wise, we help retirees develop tax-efficient withdrawal strategies to reduce unnecessary tax burdens and make your money last. If you’d like to learn more about how we can help, schedule a consultation today!
Insurance products are offered through the insurance business Retire Wise, LLC. Retire Wise, LLC is also an Investment Advisory practice that offers products and services through AE Wealth Management, LLC (AEWM), a Registered Investment Adviser. AEWM does not offer insurance products. The insurance products offered by Retire Wise, LLC are not subject to Investment Adviser requirements. AEWM and Retire Wise, LLC are not affiliated companies.
Investing involves risk, including the potential loss of principal. Please remember that converting an employer plan account to a Roth IRA is a taxable event. Increased taxable income from the Roth IRA conversion may have several consequences. Be sure to consult with a qualified tax advisor before making any decisions regarding your IRA. Neither the firm nor its agents or representatives may give tax or legal advice. Individuals should consult with a qualified professional for guidance before making any purchasing decisions. 3082899 – 6/25
