Once you retire, your federal tax liability may change. However, your specific living situation, retirement income, and financial circumstances can affect your taxes. But tax filing for retirees isn’t always straightforward, so you may want to work with a CPA when it’s time to prepare your return.

A financial planner can help you reduce your tax liability as a retiree. If you’re not ready to retire yet, you can work with a financial planner to plan ahead and find ways to lower your taxes once you do retire. And if you’re already retired, a financial planner can help you manage your income distribution based on your living expenses and potential tax liability.

The Basics of Tax Filing for Retirees

Your taxes can change quite a bit once you retire. While you were working, you paid Social Security and Medicare taxes, but when you retire, you start receiving those benefits (which are tax-free).

However, now you have to think about taxes on your retirement income. Distributions from your 401(k) are taxable, and you may also own capital gains taxes on the money your investments make that aren’t in your retirement accounts.

The biggest difference is that your taxes aren’t automatically withheld anymore. If you worked as a traditional employee, your Social Security, Medicare, and most importantly your federal income taxes were automatically withheld from your paycheck. If you ended up owing less than that amount, you received a tax refund when you filed your return.

But there isn’t a mechanism for withholding taxes for your capital gains in non-retirement accounts. You just have to pay what you owe when you file your taxes. If you prefer, you can spread it out by paying estimated quarterly taxes. But either way, you need to be prepared to owe taxes instead of expecting a refund.

Taxes for Retirees With Multiple Sources of Income

It’s crucial to keep track of your taxable income, even in retirement. That means tracking your  distributions from a 401(k) or any other type of pre-tax retirement plan. Those distributions are taxable, and each year, you’ll receive 1099 forms showing the amount of taxable income or capital gains.

If you receive money from a traditional IRA account, those funds may be taxable, nontaxable, or partially taxable. As a general rule, if you deducted your IRA contributions from your taxes in previous years, then you need to pay taxes on the money you withdraw from the account. 

For a Roth IRA, you can only make contributions with after-tax dollars. Therefore, all the money you withdraw from your Roth during retirement is tax-free. And Social Security income is tax-free as well. (In fact, if your only retirement income is Social Security benefits, you don’t need to file a federal return at all!)

Reducing Your Taxes as a Retiree

There are several possible ways to reduce your tax liability during retirement. For example, you can convert the funds in a pre-tax retirement account (e.g., 401(k)) to a Roth IRA. Although you’ll pay taxes on the dollars you convert, you will then avoid taxes later when you withdraw from the Roth during retirement. 

If you have multiple sources of income during retirement, you can reduce your taxes by balancing your income from taxable and nontaxable sources to help lower your taxes. For example, you could take the required minimum distribution (RMD) from your 401(k) and then supplement your income by withdrawing from your Roth IRA.

Get Expert Advice for Retirement Finances

Not all seniors have to file taxes; if Social Security benefits are your only source of income, you typically don’t have to file federal taxes. However, you might have to pay taxes if you have income from other sources, like retirement accounts. Additionally, you might need to file taxes if your income (including from tax-exempt sources) exceeds a certain threshold. And remember, your taxes aren’t withheld like they were when you were an employee, so it’s important to keep track of what you might owe.

It’s important to consider taxes when you’re planning for retirement. There are several ways for seniors to lower their tax liability. If you have questions about taxes in retirement, Guiding Wealth can help.

When you call us, you’ll work with a Certified Financial Planner™ who can help you figure out the best way to plan for your income (and taxes) in retirement. We’ll listen to your goals and help you make a plan to meet them. To get started, schedule a consultation online or call us at 214-810-3835.