Time for the annual, “You know, we should be doing more to pay less taxes”. 

Then like a dog seeing a squirrel, you get distracted, run in another direction and think “It’s ok, we’ll pay a lot less taxes in retirement.”

Let me share a secret, if your wealth is mostly in tax deferred retirement accounts (i.e. 401(k)s, 403(b)s and Traditional IRAs), your taxes will be much more than you realize.

Income Sources 

Retirees receive income from a variety of sources, including distributions from tax deferred retirement accounts; payouts from company pensions and annuities; rental income; savings and earnings from investments. 

Tax deferred retirement accounts enjoyed tax-deferred growth on contributions and investments; but when distributions are taken, these are fully taxable as earned income and added to your adjusted gross income (AGI). 

What if you don’t need the funds? Don’t worry the government wants its taxes, so starting at age 72 you have Required Minimum Distributions (RMDs). 

For example, at age 62 your spouse and you retire with $1.25M across all tax deferred retirement accounts. You live within your means, don’t take from these accounts and grow 7.2% annually. By age 72, the accounts total $2.5M and time for RMDs. Per IRS Table III divide by 25.6 at age 72 for $97,656 taken as RMD, taxed as earned income and added to your AGI.

Social Security  

Factors such as your total income and marital status determine what/if a portion of your Social Security benefits are taxable. If your AGI plus any tax-free interest exceeds $34K for individuals or $44K for married filing jointly, then up to 85% of Social Security benefits are taxable. 

Ways To Minimize Taxes 

Taxes are inevitable with retirement savings or pension income, but there are many strategies to reduce amounts owed, here are a few: 

During Retirement - Distribute funds in certain years of claiming large deductions, such as the breaks for medical expenses or charitable gifts, temporarily lower your tax rate.  

Before Retirement - Contribute to Roth 401(k) and Roth IRA (if eligible) now. After age 59 ½ and owned for at least 5 years, withdrawals are completely tax free. Added bonus is RMDs don’t exist for Roth accounts nor are balances in Roth accounts a factor in determining RMDs for your tax deferred accounts. 

Before or During - Roth Conversion and Backdoor Roth. Yes, pay the taxes now for benefits listed in the prior paragraph. Consider greater amounts in years of lower income if self-employed, change jobs and/or take away from work. Also, 20% (or more) market corrections provide an opportunity to convert investments over to Roth, pay less in taxes and let them rebound inside the Roth.  

There are many more strategies to consider beyond this limited space. Bottom line, plan now for the tax implications of your retirement income. 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Glenn Brown is a Holliston resident and owner of PlanDynamic, LLC, www.PlanDynamic.com. Glenn is a fee-only Certified Financial Planner™ helping motivated people take control of their planning and investing, so they can balance kids, aging parents and financial independence.