5 Reasons You Need to Learn About Taxes in Retirement Now

Taxes can have a significant impact on your finances in retirement. But if you’re proactive and deliberately include taxes as a key component of your retirement plan, you may be able to cut them down quite a bit.

The first step is simply to understand how taxes work in retirement. Look, I get what I just said, and I get it. I’ve taught enough college students and worked with enough retirees to know that if we get too into the weeds, their eyes will gloss over. Don’t worry. In this article, I will give you a brief overview so that you can be aware of what you need to think about.

1. What income is taxed and how?

As during your working years, you will receive an “income” upon retirement. He may not have thought about it yet, but his retirement income likely comes from a few different sources: retirement savings and Social Security, for example.

That income is still subject to income taxes, and you can benefit from thinking about that as you plan. What makes it so much fun is that some sources of retirement income are taxed differently than others. A good first step is to become familiar with what is taxed and how.


Let’s start by looking at savings and investments. There are three basic ways withdrawals from your retirement savings will be taxed, depending on the type of account.

deferred taxes

The most common type of retirement account is tax-deferred. This includes 401(k), 403(b), and IRA accounts. deferred taxes it means that the taxes are deferred until it is withdrawn from the account. At that point, every dollar you take out is included in your taxable income.

Tax Free (Roth)

You can withdraw money from your designated Roth accounts without incurring a tax liability. There are some requirements that must be met first. In most cases, as long as you’re over 59 1/2 and the account is at least 5 years old, then you’re fine. Otherwise, the earnings (not your contributions) in the account may be subject to tax, and you may also owe a 10 percent penalty.


Tax-advantaged retirement accounts, both tax-deferred and Roth, provide a great benefit by shielding your investments from taxes while they’re in the account. That means interest, dividends and investment earnings are not taxed along the way.

That’s not the case for the savings and investments you hold in taxable brokerage accounts. You will incur a tax liability on these accounts when you receive interest and dividends, and when you make a profit (that is, sell), whether or not you withdraw the money.

Pensions and Social Security

Pension and Social Security income is generally taxable.

A special note about Social Security retirement benefits is that may they are not taxable, and they are never fully taxable. It depends on a measure called its combined incomewhich is your adjusted gross income plus half your Social Security benefit, plus any tax-exempt interest you receive.

Depending on how high your combined income is, you may need to include none, half, or up to 85 percent of your Social Security in your taxable income.

2. Tax-based distribution strategy

Once you have an idea of ​​how your money is taxed in retirement, you can create a plan that allows you to handle taxes efficiently.

The key to having a tax efficient distribution plan is to consider how each source of income contributes to your tax bill. Instead of taking all your withdrawals from one tax-deferred account, or entirely from your Roth accounts, consider how combining your withdrawals from all sources could help you achieve the lowest possible average tax rate in retirement.

3. How do different state taxes influence retirement?

In addition to income tax at the federal level, there are currently 43 states that also have their own income taxes. Of course, if you live in one of these states, you’ll need to keep this in mind as well.

Even in states that have a state income tax, most of them are exempt from Social Security retirement benefits. However, there are 12 states that do not.

Still, your state may have an income tax, but exclude withdrawals from your tax-deferred retirement accounts and pension income. These are all important factors to consider.

4. Hire a tax professional

If you’ve ever talked to me about your retirement plan or read anything I’ve written about retirement taxes, you’ll quickly discover that I’m very “pro” about hiring a tax professional to prepare your tax return. Even more so if you live in a state with an income tax, because you’ll want a tax professional who is also familiar with your state’s code.

“But what if my financial planner helps me with my tax planning?” I often get this from my own clients when we start working together. “So you’re my tax guy, right?”

And it’s easy to see the confusion.

If you’re working with a financial planner that incorporates heavy doses of tax planning, my opinion is that you especially you need a tax professional to file your taxes. Let me explain…

  • Understand that there is a difference between tax planning and taxes preparation.
  • Tax planning It implies reflecting on the fiscal consequences of different decisions. beforehand and proactively deciding what you will do now and in the future to affect your tax liability at a later date.
  • Tax preparation it means gathering information, filling out forms, and producing a document or documents that describe what happened in the past (usually the previous year) to submit to the IRS to show a tax liability you have already incurred.

Some professionals do both, but these are different skill sets and many professionals would find it very difficult to be really good at both. Also, I think it’s a good idea to have more than one set of eyes on the same problem, especially when those eyes come from different perspectives.

If you’re working with a tax-savvy financial planner, then chances are you’re also engaging in more complicated tax strategies that make filing more complicated as well. It’s entirely possible that you could just file something wrong (forget a form, check the wrong box) and screw up the tax strategy you thought you had. Sometimes the greatest value of a professional tax preparer is in the mistakes they help you avoid.

5. The biggest tax mistake for retirees

The biggest mistake I see retirees make regarding taxes is not a single action, but rather an idea. Many retirees don’t have a plan to actively address their taxes.

The default for most is to simply defer taxes for as long as possible. That may seem smart on the surface, but in reality, it usually means paying more than you should.

Don’t neglect taxes in your retirement plan. Think ahead and proactively assess taxes so you can have the most tax-efficient retirement possible.

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