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Tax Strategies

It’s called Income Tax, not Age Tax for a reason

After years of saving and planning for retirement, many people approaching the end of their careers fail to take into account the tax burden they will face even after they stop working. While you will likely see a reduction in the amount of taxes you owe after the age of 65, you still need to plan ahead if you want to avoid handing over a large chunk of your retirement income to the IRS.

Social Security may be taxable

Depending upon your total income and marital status, a portion of your Social Security benefits may be taxable. For a rough estimate of your potential tax liability, add half of your Social Security benefits to your projected income from all other sources. This income figure must be your adjusted gross income (AGI), plus any tax-free interest income from municipal bonds or foreign-earned income. Up to half of Social Security benefits are taxable if this sum, your provisional income, exceeds $25,000 for singles or $32,000 for married couples filing jointly. However, up to 85% of Social Security benefits are taxable if your provisional income is above $34,000 for single filers or $44,000 for married couples filing jointly.

In addition to collecting Social Security benefits, most retirees receive their income from a variety of sources, including distributions from 401(k) accounts, individual retirement accounts (IRAs), company pensions, annuities, and income from investments.

Distributions from tax-deferred accounts are fully taxable

Contributions and earnings growth are tax-deferred on 401(k)s and traditional IRAs, but distributions from these accounts are fully taxable, though penalty-free if withdrawals are made after age 59½. If you have savings in 401(k) accounts or traditional IRAs, you will have to begin making withdrawals from these accounts—and paying taxes on the distributions—by April 1 of the year following the year in which you turn age 70½. If you are at least 59½ years old and made contributions to a Roth IRA or Roth 401(k) at least five years ago, withdrawals are completely tax free. There are no minimum distribution requirements for Roth accounts.

Most retirees with nest eggs or pension income of any size will pay at least some taxes on their retirement income, but there are strategies you can use to reduce the amount owed. While it usually makes sense to delay taking taxable distributions from retirement accounts until the funds are needed, or until distributions are required, you may want to withdraw more funds in tax years when claiming a large number of deductions temporarily lowers your tax rate. You may, for example, choose to take advantage of itemized deductions, such as the breaks for medical expenses or charitable gifts, in certain years, while taking the standard deduction in other years.

Roth IRAs and Life Insurance can eliminate future tax liabilities

A desire to leave a portion of your assets to your family may also influence how you handle withdrawals from tax-deferred accounts. Keep in mind that, if you leave behind funds in a traditional IRA, the rules for inheritance can be complex. To avoid these issues and make it easier to pass on your estate to family members, consider converting traditional IRAs to Roth IRAs. While you will have to pay taxes on the funds converted, moving to a Roth IRA eliminates future tax liabilities, regardless of whether you use the funds in retirement or pass the money on to your heirs. Alternatively, you may wish to consider cashing in your traditional IRAs and using the funds to purchase tax-free bonds, or a life insurance policy that will provide your heirs with a tax-free inheritance.

Consider the tax implications of your savings now to avoid an unexpected bill from the IRS later.

Set an appointment to discuss a strategy today.

Tax and/or legal advice not offered by World Financial Group, Inc, Transamerica Financial Advisors, Inc. Transamerica Financial Group Division, or their affiliated companies. Please consult with your personal tax professional or legal advisor for further guidance on tax or legal matters.

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