A Higher Standard Deduction
If you take the standard deduction instead of itemizing , you’ll be able to deduct the amounts in the table below. But the standard deduction is higher for those who are over 65 or blind. It’s higher if also unmarried and not a surviving spouse.
» Ready to work with a financial planner? See which advisors can help with tax and estate planning.
Taxes On Social Security: Current Law
As of 2022, Social Security payments are generally taxable. To see if will pay taxes on your Social Security, youd need to first find your combined income using the following formula:
Combined Income = Adjusted Gross Income + Nontaxable Interest + 1/2 of Social Security benefits
If that number is above $25,000, youll have to pay some tax if you are a single filer, head of household or qualifying widow or widower with a dependent child. The limit is $32,000 for married couples filing jointly. The exact amount of your Social Security benefit you pay taxes on depends on your total income, but it caps out at 85% of your benefits.
Some individual states also tax Social Security income. Make sure you check your state laws.
Finding The Right Withdrawal Strategy
Let’s start with a key question that many retirees ask: How long will my money last in my retirement?
As a starting point, Fidelity suggests you consider withdrawing no more than 4-5% from your savings in the first year of retirement, and then increase that first year’s dollar amount annually by the inflation rate. But from which accounts should you be taking that money?
Traditionally, tax professionals suggest withdrawing first from taxable accounts, then tax-deferred accounts, and finally Roth accounts where withdrawals are tax-free. The goal is to allow tax-deferred assets to grow longer and faster.
For most people with multiple retirement saving accounts and relatively even retirement income year over year, a better approach might be proportional withdrawals. Once a target amount is determined, an investor would withdraw from every account based on that accounts percentage of their overall savings.
The effect is a more stable tax bill over retirement and potentially lower lifetime taxes and higher lifetime after-tax income. To get started, consider these 2 simple strategies that can help you get more out of your retirement savings, depending on your personal situation.
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Costs Are Rising And The Market Is Bearish But That Doesnt Have To Jeopardize Your Long
Illustration by Giulia Neri
If youre a retiree who isnt worried about inflation, youre either fabulously wealthy or not paying attention. Even for super savers, inflation is retirement kryptonite. To keep up with rising costs, you may be forced to take larger withdrawals from your portfolio, increasing the risk that youll outlive your nest egg. And if inflation is accompanied by a bear market, as it is now, those withdrawals can leave a permanent hole in your portfolio.
More than 70% of individuals age 50 and older are concerned that inflation will cause serious economic hardship during their retirement, according to a recent national poll Kiplinger conducted with Athene, a retirement services company. Although you cant control the inflation rateor the stock marketyou can take steps to protect your retirement security.
Use An Swp To Get The Lowest Tax On Your Investment Income
The lowest tax rate on investment income is on deferred capital gains at almost any income level.
Capital gains are taxed at preferred rates. With tax-efficient equity investments, you can defer the gain and pay capital gains tax years from now, instead of this year.
To get cash flow from deferred capital gains, just sell some of your stocks, mutual funds or ETFs each month. This is called a systematic withdrawal plan . You are taxed on the gain that has built up in the investments so far.
If you just bought your investments, then the SWP is tax-free. You are just taking back some of your own money. If you owned these investments for years and they are up hugely, you could be receiving mostly capital gains.
For illustration purposes in the chart, I assumed your investments have doubled since you bought them, so half of your SWP is a capital gain and half is tax-free because it is your original investment.
The chart below shows the marginal tax brackets, including the clawbacks, on different types of investment income. Note that deferred capital gains are always in green low brackets.
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Top Tips To Minimize Taxes In Retirement
Small Business Taxes, The Complete Idiots Guide to Starting a Home-Based BusinessGuide to Self-Employment, The Wall Street JournalU.S. News and World Report
Marcus Reeves is a writer, publisher, and journalist whose business and pop culture writings have appeared in several prominent publications, including The New York Times, The Washington Post, Rolling Stone, and the San Francisco Chronicle. He is an adjunct instructor of writing at New York University.
When you retire, your income usually flows from three possible sources: Social Security benefits, distributions from individual retirement accounts and retirement plans, and funds from savings and other investments. Depending on your income level, you may want to use certain tax strategies to minimize what Uncle Sam takes from you in retirement. Here are a few to consider.
Invest In Roth Accounts
Distributions from Roth 401 and Roth IRA accounts are not taxable in retirement. You can take as much money out of these accounts as you would like without owing taxes, provided you follow IRS withdrawal rules.
If you don’t want to worry about paying taxes after you retire, use these accounts as your primary retirement savings vehicles. Or, put at least some of your retirement money into them throughout your working life to reduce your future tax bills.
Be aware, though, that Roth accounts do not provide an up-front tax break in the year you make your contributions. As a result, it makes sense to choose Roths over traditional accounts if you expect your tax bracket will be higher in retirement than during the years you’re contributing to your retirement accounts.
It’s possible to convert traditional accounts to Roth accounts. However, there are tax consequences, and a five-year rule may limit your ability to access your funds tax-free if you roll over your account too close to retirement.
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Are Employer Contributions To A Group Rrsp Tax Deductible
Group RRSPs are a type of retirement savings plan that is sponsored by an employer.
Contributions made by the employer are typically tax deductible, and employees may also be able to make pre-tax contributions to their plan. The money in a group RRSP can then be used to purchase annuities or other types of investments.
Employer contributions to a group RRSP are generally deductible for both the employer and the employee. However, there are some exceptions. For instance, if the employer makes contributions on behalf of the employee, they may not be deductible. Additionally, if the employee elects to have their contributions deducted from their pay cheque, they may not be able to claim a deduction for them.
Ultimately, whether or not employer contributions to a group RRSP are tax deductible depends on a number of factors. Consult with your accountant or financial advisor to determine if your situation qualifies.
What Is An Rmd And How Does The Rmd Tax Penalty Work
A required minimum distribution is the minimum amount you must withdraw annually from your retirement account when you are age 72 and older. It is recalculated each year. If you do not take a distribution or if you withdraw less than the required amount, you may have to pay a penalty equal to 50% of the amount not taken. Being aware of this ahead of time can help you avoid the penalty.The simplest approach for many individuals is to take the first RMD by Dec. 31 in the year they turn age 72 and continue RMDs by Dec. 31 every year after that. You can take more than the required amount and people often do so. While the extra withdrawals dont count toward RMDs for future years, they do reduce the base amount from which future RMDs are calculated.Roth IRAs are exempt from RMDs while the owner is alive, but Roth 401 and Roth 403s do have RMDs unless they are rolled over to a Roth IRA.
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Defer Taking Social Security
To keep your taxable income lower withdrawal) and also possibly stay in a lower tax bracket, consider putting off taking your Social Security benefits. One way is to delay or defer Social Security payments as part of a tax-saving strategy that includes converting some funds to a Roth IRA.
If retirees can afford to delay collecting Social Security benefits, they can raise their payment by almost a third. If you were born within the years 19431954, for example, your full retirement agethe point at which you will get 100% of your benefitsis 66. But if you delay to age 67, you’ll get 108% of your age 66 benefit, and at age 70, you’ll get 132% . This strategy stops yielding any extra benefit at age 70, however, and no matter what, you should still file for Medicare Part A at age 65.
Don’t confuse delaying Social Security benefits with the old “file and suspend” strategy for spouses. The government closed that loophole in 2016.
Taxes On Social Security Income
Social Security benefits are taxed on the federal level only once your provisional income exceeds a certain threshold. Provisional income is half of Social Security benefits, all taxable income, and some non-taxable income such as municipal bond interest.
Here’s how taxes will apply to benefits depending on how much provisional income you have:
|Percent of Benefits Subject to Tax|
|Above $44,000||Above $34,000|
You can ask the Social Security Administration to withhold taxes from your check so you don’t end up owing a lot to the IRS when you file your taxes. If you don’t have taxes withheld, you may need to submit quarterly estimated returns to pay taxes throughout the year.
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How To Reduce Taxes In Retirement
Even though you may be retired, the tax man is ready to take a slice of your Social Security and retirement fund payouts. How can you minimize his cut? Stephen Nelson, a wealth manager at Aldrich Wealth in Carlsbad, Calif., has some very good advice here:
Larry Light: With boomers retiring every single day, how can they minimize their tax bill in retirement to keep more money in their pocket?
Stephen Nelson: Some people in retirement find out that they actually pay more in taxes than they did when they were working. This is because theyve begun to collect Social Security, have more interest and dividends being paid to them from their portfolios due to their allocation being more conservative, and are also required to take RMDs or required minimum distributions from their 401 or IRA, which will subsequently be taxed. With a little bit of planning, you can save yourself potentially thousands of dollars in taxes.
Light: Whats a really simple way to decrease taxes as it relates to Social Security?
Nelson: Conventional wisdom states that retirement and Social Security go hand in hand. As a result, some people automatically file to take Social Security even though they have retirement income from other sources, be it a pension, annuity or real estate. A very simple way to decrease your taxes is to delay paying Social Security for as long as you can.
Light: What if someone chooses to continue to work past 70?
Be Strategic About Social Security Benefits
If you don’t need Social Security at full retirement age because you have other income, consider delaying the receipt of benefits until age 70. You’ll earn additional to boost your monthly benefits at that time, and you won’t have to pay taxes now on the benefits.
When you receive benefits, they are either fully tax-free or are included in your gross income at 50% or 85%, depending on your other income . More specifically, if your provisional income is less than $25,000 if you’re single, or $32,000 if you’re married filing jointly, none of your Social Security benefits are taxed.
If you’re single and your income is between $25,000 and $34,000or between $32,000 and $44,000 if you’re married filing jointlythen 50% of benefits are taxable. Having income over $34,000, or $44,000 respectively, means 85% of benefits are included in gross income. Married persons filing separately automatically have 85% of benefits included in gross income.
Because the portion of Social Security benefits that is taxable depends on your other income, try to control this as much as possible. Here are some ideas:
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Other Sources Of Income
Finally, the rest of your income during retirement can come from a combination of part-time jobs, side hustles and, hopefully, passive income streams. All of these have the potential to cover your expenses and allow you to postpone tapping your retirement savings as much as possible, allowing them to grow even more.
Rrsp Tax Deduction Calculator
An RRSP tax deduction calculator can be a helpful tool for anyone who is saving for retirement. By inputting your income and other information, the calculator can estimate the amount of money you will be able to deduct from your taxes. This can be a valuable planning tool, as it can help you to determine how much you need to contribute to your RRSP in order to maximize your tax deductions. Here are two resources you can use:
This kind of calculator can also help you compare the potential tax benefits of different investment options. However, it is important to remember that the calculator is only a tool, and that your individual circumstances may differ from the assumptions made by the calculator.
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Remain Conscious Of Extra Income
Consider the total effect that a given source of income has on your total income, which is what will drive your tax bill. This is especially important regarding Social Security. As your income increases, the amount of your Social Security benefit that is subject to income taxes increases.
That makes it even more important to think of your income in retirement across multiple years.
As outlined previously, delaying Social Security benefits can create an opportunity to convert some of your tax-deferred savings into a Roth IRA. But remember, you must take into account multiple tax considerations, including federal income tax, state tax, long-term capital gains taxes, and a little-known tax call IRMAA. That’s a lot of taxes to consider, but the payoff can be significant.
Remember, qualified withdrawals from a Roth IRA won’t increase your taxable income and may keep more of your Social Security payments from being taxable.
Annual Tax Bracket Planning
Annual tax planning can help you uncover opportunities to:
- Withdraw money from an IRA or convert Traditional IRA funds to a Roth IRA, and pay little to no tax in years when your deductions are high and your other sources of income are low.
- Realize capital losses to offset capital gains or create a capital loss carryover.
- Use years with high itemized deductions to your advantage.
- Fund the type of accountRoth IRA, Traditional IRA, or 401that will provide the most long-term tax benefit to you based on your tax situation in that year.
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Strategically Withdraw From Roth Accounts
Roth retirement accounts such as Roth IRAs and Roth 401s let you take qualified withdrawals in retirement without paying any taxes on the distributions. Because these withdrawals wont push up your taxable income, you can take out extra from your Roth accounts in years when you already have significant taxable income.
For example, say you sold your home because youre downsizing to a smaller one and youll have a six-figure capital gain as a result. Taking distributions from your Roth accounts rather than your traditional retirement plans could lower your taxes.
What’s The Best Way To Save On Taxes In Retirement
Understanding the sources of income you’ll have during your retirement and how they are taxed will be your first step to saving on taxes at that time. While you won’t know exactly what your tax rate will be when you retire, as tax laws and your actual income are subject to change, making an educated guess as to your future income bracket will help. For example, in 2022, marginal tax rates range from 10% for incomes below $10,275 to 37% for incomes above $539,900. Those income limits are subject to inflation adjustments each year.
Once you know those factors, you can look closely at your taxable and nontaxable income and your deductions. That information will help when projecting where it will be most tax-efficient to put your funds as well as when to take distributions and how much. A tax professional can help you run these numbers.
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Borrow Instead Of Withdraw From Your 401
Some plans let you take out a loan from your 401 balance. If so, you may be able to borrow from your account, invest the funds, and create a consistent income stream that persists beyond your repayment of the loan.
The IRS generally allows you to borrow up to 50% of your vested loan balanceup to $50,000with a payback period of up to five years. In this case, you don’t pay any taxes on this distribution, let alone a 10% penalty. Instead, you simply have to pay back this amount in at least quarterly payments over the life of the loan.
With these parameters, consider this scenario: You take out a $50,000 loan over five years. With interest, let’s say your monthly payment over this 60-month period is $900. Now imagine taking that $50,000 principal amount and purchasing a small house, apartment, or duplex in the relatively inexpensive South to rent out. Given that you would be purchasing this property without a mortgage let’s say that your net rent each month comes out to $1,100, after taxes and management fees.
What you have effectively done is set up an investment vehicle that puts $200 in your pocket each month for five years. And after five years, you will have fully paid back your $50,000 401 loan, but you’ll continue to pocket your $1,100 net rent for life! You might also have the opportunity to sell that house/apartment/duplex later on at an appreciated amount, in excess of inflation.