Tax Tips in Retirement

Written by Sally Perkins

Many retirees may assume that they don’t have to pay as much income taxes since they don’t work. Though a single or married retiree may be in a lower tax bracket, certain retirement vehicles are still taxable. In fact, you may have to pay taxes on social security if you are in higher tax bracket. But if you plan ahead and learn the tricks of how to manage your taxes, you can be prepared for that dream trip to Europe or the extra indulgence you’ve been hoping for. So when tax planning year to year, consider the following:

Manage Your Expenses

It has been said before, but managing your expenses is a key element to a successful financial retirement. If you can keep your adjusted gross income below $37,500 in 2017 your tax burden will only be 15%. So try your best to avoid a higher tax bracket when you are withdrawing from any of your savings accounts, IRAs, 401(k)s, etc. Follow a budget, a retirement income strategy, and how you are going to pay for potential healthcare costs.

If you are considering retiring, try to have your house paid off as you can then avoid using retirement money for this expense.

Life Insurance Legacy

If you want to leave a legacy or if your dependents may have debts to pay on your estate, consider a life insurance policy. The death benefits and payout are not taxable. However, if you borrow against the policy you may be subject to taxes.

Withdrawal Strategy

Some retirement income is taxable. As mentioned earlier, social security is taxable if you are in a higher tax bracket. But, for example, if you are withdrawing money from a Roth IRA it isn’t taxable if you contributed the money over 5 years ago. The general advice given by many financial planners is to withdraw money from your retirement income in the following steps:

  • Taxable accounts, like investments
  • Tax deferred accounts, traditional 401 (k)
  • Tax exempt accounts, Roth IRA

The idea behind this tiered strategy is 401(k)s and Roth IRAs can continue to grow without any tax penalties. In your investment accounts there is no tax shelter, so you might as well use investment money first. Then, if you are going to have a year where your expenses are going to increase, use the tax exempt money so you won’t have to pay income tax on the withdrawal.

This is an important concept and may be worth talking to a financial planner about.

Annuities

Annuities have a tax benefit as well. Annuities are an insurance product where the individual purchases an investment and the price paid is converted into periodic payments to the retiree. There is a lot of flexibility on how often you get paid (monthly, quarterly, annually), when payments start to occur, how long you want the payments for, etc. Setting up a payment plan can take out some of the guess work.

If you have to cash out the annuity because of an emergency, you will have to pay income taxes on all earnings. But if you hold onto the annuity and paid for it with pretax money, then the payments will be taxable. If you use after tax income to buy the annuity, then you will only be taxed on the earnings.

Deductions

Of course all taxpayers want deductions! Individuals over 65 used to be able to itemize for medical expenses that were over 10% of their adjusted gross income, but that changed in 2017 to 7.5%. Keep this in mind when it comes to tax time, but stay organized and track your medical payments as you never know when your medical expenses will be high. Medical expenses include health and long term care premiums, dental care, prescriptions drugs and other health care expenses.

Another deduction that some people miss is dividends from investment income which are taxed lower than regular income, and you can still invest as a retiree. If you still run a business, even part time, your business expenses are deductions. Downsizing houses can be attractive and if you sell your home and you’ve lived in your home at least two of the five years before you sell the property, the equity won’t be taxed.

And if you are considering selling and moving…

Tax Free States

Florida may be infamous for having many retirees, and for good reason, there is no state income tax. There is also no state income tax in Nevada and Texas. The weather is warm in all three! So though there may be an expense to moving, you could recoup that by saving on taxes. If you are considering moving to warmer climates, look into these states and research the cost of living.

Finally, with a little strategic planning, you won’t be giving all your hard earned retirement income to the IRS. Have a budget, try not to have a mortgage, plan how you are going to withdraw income, look at different income vehicles, and consider your tax deductions. It will be worth the time investment to carefully plan your income streams.

Grow Wealthier During Retirement

Written by Jeremy Biberdorf

Most people think of retirement as a time to live as simply as possible with the hope savings accumulated through life won’t run out before the end of your life. While this is the reality that many older adults deal with, it’s not absolutely necessary. In fact, it’s possible to grow wealthier during retirement. It may require some reallocation of assets, but if you’ve prepared for retirement, it may surprise you to know that your wealth can actually grow as you go.

1)    Eliminate Inefficiencies. It’s important not to waste money. Take a careful look at your life and make those difficult changes. If you have poor credit, you’ll pay much more for loans for the rest of your life. Choose OneMain personal loans to see some practical examples. If you are currently renting, consider buying a home. This will build personal equity, another leverage point for future borrowing. Restrict monthly spending as much as possible. If you don’t need it, don’t buy it. And if you feel you must have it do without something else as a tradeoff.

2)    Focus on Enrichment. Retirement is a time to live gently. Fortunately, gentle living is not terribly expensive. Spend time exercising, meditating, reading, taking classes, and hanging out with the people who mean the most to you. Not only will filling your days with healthy activities like these preserve your wealth, it will make you healthier so that you enjoy your retirement more.

3)    Increase Saving. No matter what age you are, you should be saving as much as possible, at least if you hope for a retirement that’s free of financial anxiety. Your savings will be the basis of future security. Even if you are well on your way to a comfortable retirement, saving is an integral skill to keep active. If you are able to work part time, through a job or a profitable hobby, you can continue to add to your savings.

Now we come to the investment portion. Once you’ve controlled spending and increased your savings, you want to allocate your financial resources in a way that will build wealth without requiring too much in the way of active management. Here are some ways to do that.

1)    The 4% Rule of Investment. Let’s say you have $1,000,000 invested in index funds through Vanguard. Investments like these grow, on average, about 8-10% per year. Retirees who withdraw 4% of their investment balance every year ($40,000 in this case) still see their investments gaining value, at a faster rate than money is being withdrawn. This is an incredible way to gradually accumulate greater wealth during retirement, even as you’re living off of the investment balance. The less you take out to live on, the larger balance you have gaining value.

2)    Real Estate and Other Passive Income. Some people build wealth through ownership of property, companies, and more. If you have a property that yields a positive cash flow through renters or other forms of tenant, you can live off of this income or use it to increase your wealth. Once you’ve paid off the property which, by the time you retire, may have already happened, you’ll enjoy that entire monthly rental balance in your pocket less the on-going costs to maintain the property.

3)    Make Sure You Know About All Assets. By the time you retire, you will likely have worked a number of jobs, lived in many houses, and had an incredible variety of experiences. In this time, you may have received inheritances, retirement accounts from work/pensions, property, and other assets. It is important to make sure you know what you own, and to have it allocated in the way that best provides ongoing security. By knowing exactly what you have you can better maximize your returns. Get rid of low performers and build an efficient portfolio of quality investments.

Retirement doesn’t have to be a time spent watching your resources move inexorably to zero. You may be able to create a situation in which you money grows significantly, even when you no longer have direct income from your career. This takes time, hard work, and making the best of your opportunities prior to retirement, but if you are able to hit these targets you’ll have a prosperous retirement with a large estate.