All United States citizens are subject to income tax from the federal government, even those who are retired. Living on a fixed income in retirement can be difficult, so it’s important to plan accordingly for how you will be taxed to get an accurate picture of your financial health. 

Here’s what you need to know about taxable income in retirement. 

Social Security Benefits 

One thing that many retirees may not realize is that they can be taxed on part of their Social Security benefits. If you have substantial income in addition to your Social Security benefits, you may need to pay taxes on up to 85% of your benefit amount. The amount of tax you pay depends on your combined income—your adjusted gross income (AGI) plus any non-taxable interest plus half of your Social Security benefits. 

When you complete your federal tax return, you can use your annual Social Security Benefit Statement to figure out how much of your benefit payment will be taxable. There are a couple of ways to pay these taxes: Make quarterly estimated tax payments, or choose to have them withheld from your benefit payments. 

Retirement Savings Plans 

The amount of taxes you pay on distributions from your retirement savings accounts depends on the type of plan you are pulling money from. For example, your contributions to traditional IRAs and 401(k)s come from your pre-tax income. So, when taking distributions from these types of accounts, you’ll be taxed at your regular income tax rate. 

Roth IRAs and Roth 401(k)s, however, are built up with funds after taxes. This means that distributions from these types of savings accounts will not be taxed, provided they meet any withdrawal requirements or restrictions. Withdrawals made from properly structured cash value whole life insurance policies are similarly not subject to tax under current tax law, as long as they don't exceed your cash basis. (Read more about using whole life insurance for retirement here.)

It’s a good idea to think about the amount of money that you will need to withdraw from your retirement savings accounts. As mentioned above, your combined income is what will determine your income tax rate, so the more you take out of your retirement accounts each year, the more you may owe in taxes. To avoid unnecessary taxation, only take out the minimum distribution requirements or as much as you need above that amount in a given year.

If you have sufficient time before retirement, you may also consider repositioning some taxable accounts into Roth accounts or properly structured whole life insurance policies to increase the amount of tax-free income you will have access to in retirement and reduce future taxes.

Consulting a Professional 

Figuring out how to pay your taxes, take distributions and live on a fixed income during retirement can be confusing. But a financial professional can help you navigate the waters of taxes in retirement and help you avoid pitfalls that may leave you in poor financial health. And planning ahead of time means being prepared for whatever retirement might throw your way. 

Want to discuss your options for planning ahead for taxes in retirement? Contact our office for a free initial strategy session, or call Rose at 614-300-9498 to schedule a time to speak with one of our financial professionals.

^{*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation by us of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets. This material was developed and produced by Advisor Websites to provide information on a topic that may be of interest. Copyright 2024 Advisor Websites.}