All About Taxes in Retirement

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Most clients are surprised when they get to retirement and see that their taxes have changed. I have this conversation with almost all of my clients when they retire. They go from having a normal W2 income, where their taxes are withheld — and sometimes they even withhold additional taxes to ensure they don’t owe at the end of the year. Then, they file their taxes, maybe get a refund, and it’s all fairly straightforward

When they retire, however, a couple of things happen.

Withholdings change in retirement

After retirement, many people realize they don't have the normal withholdings on their paystub, which means they have to pay their taxes differently. But what are those different ways?

IRA account

With an IRA, an individual can withhold the taxes that are paid out. For example, if they wanted to pull out $6,000 per month from their IRA and are going to be in the 24% tax bracket, they would need to withdraw $7,894 each month in order to get to the $6,000 per month amount (note: this may be even more if they live in state that has state income taxes). This is similar to what it is like withholding taxes on your paycheck - it happens automatically and usually covers most of your tax bill.

Also, IRA accounts are fully taxable (unless you have a Roth IRA), which means if you have $1 million in a retirement account, you don't actually get $1 million. You would get the $1 million minus any taxes you owed on that income.

Non-IRA accounts

Any trade that's made or any dividend or capital gain is taxed. Unfortunately, there's no way for the government to withhold taxes from that or for the firm (custodian) where the accounts are held to send the money to the IRS like it’s possible to do for IRA accounts. This is usually what surprises most of my clients — they have to pay taxes on these gains. Paying these taxes isn’t the surprise because they have been paying them in the past, but because there is no withholding, many have to write a check for these taxes instead of having the taxes automatically withheld.

Social Security income

Social security does withhold taxes automatically, so you don’t have to worry about paying those taxes yourself throughout the year. Once you start collecting Social Security income, you can pick how much to withhold from that income, so it's similar to withholding on your IRA.

Adjusting to differences in tax payments

For many people, income in retirement can feel restrictive or concerning — and taxes make that even more stressful. While most people actually pay fewer taxes in retirement, it can feel like more because they’ve never actually seen (or “held”) the money that’s going to taxes. When you’re employed, it’s automatically taken out before you get to touch it, but retirement income means you often see the money and have to withdraw more to pay taxes. This can take some getting used, but the whole idea is to use a tax strategy for your retirement income that is the most beneficial.

You want a tax strategy that has you saving and investing money that will accrue enough interest to accommodate for taxes down the road, or that is invested post-tax so you don’t have to worry about it later. Of course, all of this is highly nuanced and requires an in-depth understanding of retirement accounts and taxes.

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That’s why we at Guiding Wealth work with our clients to create a long-term plan that accounts for taxes in retirement — and helps them prepare for the changes they’re bound to notice.

This way, you can enjoy your retirement without worrying about taxes or how much money you’ve got. You’ll already have it figured out!

If you’re looking for a Certified Financial Planner™ that can help you plan for retirement and develop a withdrawal and tax strategy that helps your money go the distance, contact me today. You can set up a free consultation with me to determine if we’re a good fit.

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