How to Minimize Your Tax Liability in Retirement Planning

retirement planning
May 15, 2023

Taking a proactive approach to retirement planning is always a smart move. The earlier you start thinking about retirement, the more financially secure you will be when it’s time to relax and enjoy an exciting new phase of your life. 

However, one factor that many soon-to-be retirees may underestimate is future taxes. Even if you are not bringing in any income after retirement, you will still need to consider federal and state taxes every year. Therefore, for many retirees, the amount of these taxes can come as an unpleasant surprise. 

According to a Tax-Efficient Retirement Income Study performed by the Nationwide Retirement Institute, 35% of current retirees did not consider how taxes might affect their retirement income when planning to retire. An estimated one-third of retirees also reported that they regret not being better prepared to pay taxes throughout retirement. Additionally, roughly 25% of respondents said they spent several thousand dollars more than they expected after they retired. 

But the good news is that there are steps you can take before, during, and after retirement to minimize your tax liability. When considering your future retirement, keep the following retirement planning guidelines in mind to ensure that you can retire with ease. Also, it can help with any unforeseen financial obstacles when the annual tax season rolls around. 

 Understand the Differences Between Retirement Savings Accounts 

When it comes to retirement planning, not all savings accounts are created equal in terms of current or future taxes. Retirees will want to consider the following specialized savings accounts that will provide income years into the future. 

  • IRAs or Individual Retirement Accounts  
    •  IRAs are tax-deferred accounts, and any withdrawals made in retirement are taxed as ordinary income. Contributions now may be tax deductible, depending on several factors.  
  • Roth IRAs  
    •  Roth IRAs offer tax-free withdrawals in retirement. However, the amount of tax-free contributions you can make now may be impacted by your income. Also, there are income limits that are in place by the IRS. Furthermore, contributions are typically not tax deductible.   
  • 401(k)s  
    • 401(k)s are plans co-sponsored by your employer, and both employees and their company can contribute pre-tax dollars. Withdraws during retirement are generally taxed as ordinary income.  
  • Roth 401(k)s  
    •  Like 401(k)s, Roth 401(k)s are also employee-sponsored accounts. Contribution limits tend to be the same as standard 401(k)s. However, since Roth 401(k)s are funded with after-tax dollars, future withdrawals are tax-free and penalty-free, provided that you have had the account for five years and are at least 59.5 years old.  

Remember that the best way to determine the right account for your specific income, tax bracket, and financial situation now and in the future is to partner with an expert in retirement tax planning. A tax professional can guide you toward your best saving options.  

Consider Tax-free Bonds 

Tax-free bonds can be a great addition to any investment portfolio. They may have a lower ROI, and they are generally considered to be a no-risk investment. Future profits from federal bonds and municipal bonds are generally free of state or city taxes. Additionally, you will have to report the income from your bonds when you file your annual federal taxes through retirement.  

Make a Move to a Tax-friendly State 

If relocation is part of your eventual retirement plan, then consider moving to a state that is more tax-friendly than others, especially for retirees. While some states may offer noticeable benefits when it comes to specific types of taxes, like lower property taxes, the following states are known for not collecting personal income tax: 

  • Florida 
  • Nevada 
  • New Hampshire 
  • Tennessee 
  • Texas 
  • Washington 
  • Wyoming 
  • South Dakota 
  • Alaska 

Remember that state laws can always change, so consider future tax law adjustments when considering a post-retirement relocation.  

Take Stock of Your Retirement Tax Bracket 

Your tax bracket plays a big role in how much you will owe both now and in your retirement. For example, your Social Security benefits might be taxable if half of your benefits, plus any other income, exceeds the base amount of the following filing statuses, as outlined by the IRS: 

  • $25,000 for taxpayers who are single, the head of a household, or a qualifying surviving spouse 
  • $32,000 for taxpayers who are married and filing jointly 
  • $25,000 for taxpayers who are married and filing separately and have lived apart from a spouse for the entire year 
  • $0 for taxpayers who are married, filing separately, and have lived with a spouse at any time during the tax year 

The more money reported to the IRS, the higher the tax bracket will be for your tax return. This information is helpful during your retirement planning as you take stock of the withdrawals from an IRA, 401(k), or pension you’ll need to make every year. (In other words, if you are on the border of a specific tax bracket, you may want to withdraw a little less to ensure you stay under the threshold.) 

Be Sure You Make the Required Withdraws in Retirement 

It seems unlikely that you will forget about your retirement accounts, but make sure that you start withdrawing money from your traditional 401(k)s and/or Roth 401(k)s by the time you are 73 years old.  

These are known as required minimum distributions, and they are mandatory withdrawals must be taken by April 1 of the year following the calendar year when you turn 73. Otherwise, you could pay a 25% penalty on the minimum withdrawal amount that should have been collected. 

Before Starting Your Retirement Seek Expert Help with a Tax Professional  

Partnering with a tax professional is the best way to minimize taxes when it comes to planning for retirement.

At Waters Hardy, we help with every intricate aspect of tax planning now and into the future. This certainly includes identifying the best options for a successful retirement down the road. 

Let’s discuss the steps you can take to reduce your tax liability during your retirement years. With a tax expert at your side throughout the retirement planning process, you can enjoy peace of mind that when it’s time to relax and focus on enjoying life, your finances and taxes will be one thing you’ll never have to worry about. 

Reach out to us today.  



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