tax strategies

7 Tax Strategies For Retirement

Many retirees are surprised to discover that having a financially secure retirement is more than just accumulating assets; it requires strategic approaches to minimizing tax surprises. 

According to the Nationwide Retirement Institute, 46% of retirees wish they had planned better for handling taxes in retirement. 25% report paying thousands of dollars more in taxes in retirement than expected.

Tax planning in retirement is more crucial for future retirees, who are more likely to have pre-tax accounts like a 401(k) or IRA among their income streams. These accounts offer participants little control over their accounts when they turn 73, and Required Minimum Distributions (RMDs) kick in. When this happens, retirees must take a set amount each year or pay up to a 25% penalty.

But there are plenty of options to help reduce tax surprises in retirement; here are seven tax planning strategies that can help:


Affiliate

First Citizens Bank is an over 100-year-old family-controlled bank with a community focus.

  • No monthly fees
  • No minimum balance
  • Low opening balance
  • Free digital and mobile banking
  •  Access your account digitally, at branches, or at ATMs
  • Link checking and savings accounts for overdraft protection

Try First Citizen’s free checking with paperless statements or online savings accounts.


Diversify Your Savings

Try to split your retirement savings among three different buckets. These are:

Tax-deferred accounts are taxed when you withdraw the, e.g., IRAs and 401(k)s.

Tax-free accounts have already been taxed, so they can be withdrawn tax-free in retirement, e.g., Roth IRAs and 401(k)s.

Taxable accounts are taxed on interest, dividends, and gains, e.g., brokerage and savings accounts.

Maintaining a mix can help you have better control when withdrawing money in retirement. Diverse savings could also be vital if you plan to retire early. Consider building a taxable bucket because early retirees cannot access their retirement accounts without penalty.

Take Advantage of Roth Opportunities

If you haven’t retired, consider contributing to an after-tax retirement account like a Roth IRA or 401(k). This year, savers can put up to $7,000 or $8,000 if you’re 50 and older. However, be careful of the income limits. The ability to make a direct contribution is reduced for those whose modified adjusted gross income is over $146,000 for single filers or $230,000 if you’re married and filing jointly. Due to the Secure 2.0 Act, more employers are offering Roth 401(k) accounts, which don’t have an income limit.

Roth contributions can be a great option if you expect to have more taxable income when you retire like dividends, Social Security payments, or selling investments or if you expect income taxes to increase in the future.

It can also make sense for high-income earners who can’t make a direct contribution to convert savings into a Roth IRA. A backdoor Roth tax strategy can trigger a bill at conversion. The intention of Roth accounts is to have a smaller tax bill now rather than letting the funds grow and take taxable withdrawals from an IRA later. 

Utilize a Health Savings Account

If you’re looking to maximize your savings, a health savings account has much to offer. You receive a triple tax benefit from an HSA: it exempts your contributions from taxation, allows tax-free growth of contributions, and permits tax-free withdrawals for medical expenses. You can withdraw HSA funds at any age for health expenses; however, there are three conditions:

  • Only contribute to the HSA until you turn 65, 
  • Enrolled in a high-deductible plan,
  • There’s a limit to how much you can contribute to the account per year, $4,150 for singles and $8,300 for families. 

Let’s face it – most of us will face many health care expenses in retirement. According to Fidelity, the average retired couple can expect to pay over $280,000 in health-related costs. So, stashing money in an HSA can be a great benefit. To get the most out of an HSA, max out your contributions, invest the funds, and avoid using the money for minor medical costs.

Pick Your State Carefully

If possible, try to pick a tax-friendly state. Not all states are treated equally when it comes to taxes in retirement. Nine states have no income tax, whereas New Hampshire only has taxes on dividends and interest. As a result, some of these states have become favorite retirement destinations.

On the other hand, California has one of the highest tax rates. Of course, there are other factors to consider when deciding where to spend your retirement, but a tax-friendly state could be an important factor. That said, most states do not tax Social Security benefits. Many do not tax pensions, military retirement, or 401(k) or IRA distributions.

Creating an RMD Tax Strategy

Timing RMDs strategically can minimize taxes during retirement. RMDs are mandatory withdrawals from pre-tax retirement accounts, such as traditional IRAs and 401(k)s. These accounts require individuals to take distributions after reaching a certain age(usually 73). 

Account holders also have the opportunity to reduce their RMD by 

  • Making a qualified charitable distribution
  • Converting money from a traditional IRA to a Roth IRA
  • Utilizing a qualified longevity annuity contract
  • Start taking withdrawals once you hit age 59.5

An RMD strategy is not a one-size-fits-all approach; several options exist. Discuss with a financial advisor to see which option will help you best minimize your taxes. 

Cut Your Expenses

Reducing your tax isn’t as simple as skipping your morning latte or discontinuing your cable subscription. However, lowering your living expenses means you can decrease the amount you need to withdraw from your retirement accounts during the year. Not only does more money stay in your bank account, but it also is a tax strategy that results in lowering your taxable income.

Stay Informed About Tax Strategy Changes

Death and taxes may be sure things, but tax laws, not so much. Tax law changes are likely to change throughout your retirement. It’s essential to stay informed as those changes can impact your retirement income and liability. Consulting with a tax advisor or financial planner can help ensure that you are aware of any changes and make necessary adjustments as needed.

Related Articles on Dividend Power


Here are my recommendations:

Affiliates

  • Simply Investing Report & Analysis Platform or the Course can teach you how to invest in stocks. Try it free for 14 days. 
  • Sure Dividend Newsletter is an excellent resource for DIY dividend growth investors and retirees. Try it free for 7 days.
  • Stock Rover is the leading investment research platform with all the fundamental metrics, screens, and analysis tools you need. Try it free for 14 days.
  • Portfolio Insight is the newest and most complete portfolio management tool with built-in stock screeners. Try it free for 14 days.


Receive a free e-book, “Become a Better Investor: 5 Fundamental Metrics to Know!” Join thousands of other readers !


*This post contains affiliate links meaning that I earn a commission for any purchases that you make at the Affiliates website through these links. This will not incur additional costs for you. Please read my disclosure for more information.

Financial Planner, Tax Professional at Spark Financials | Website | + posts

Danielle Miura, CFP®, EA, is the founder of Spark Financials, a life and financial planning firm specialized in helping those planning for retirement to organize, simplify, and empower them through every life turn. As a CERTIFIED FINANCIAL PLANNER™ professional, I help my clients protect their assets, manage their wealth, and dream about their future.

Leave a Reply

Your email address will not be published. Required fields are marked *