Is your retirement income strategy tax ready?

Saving for retirement is hard enough but practicing proper tax-efficient strategies—before and after retirement—is just as important. 

Long-term tax planning should be a part of everyone’s retirement income strategy. It can boost income and put extra dollars in your pocket when you need them the most. Unfortunately, tax deductions are usually the last thing people think about when planning for retirement.

Luckily, it’s easier than you think! Here are some things you can do to help keep your taxes in check.

Ways to help lower your taxes before retirement 

In your working years, contributing to tax-deferred retirement vehicles is one of the best ways to help reduce your taxable income. The term “tax-deferred” simply means that you can delay paying taxes until the future (when you will most likely be in a lower tax bracket).

The two most common tax-deferred retirement savings accounts are 401(k)s and traditional IRAs. The more you can contribute to these accounts (within limits) when you are working, the lower your taxes will be each year before retirement. 

Contribute to a 401(k)

A 401k is an employer sponsor plan that comes with many benefits such as employer matching, tax-advantaged savings, and high contribution limits, to name a few. 

2022 annual 401(k) contribution limits:

  • Under 50 years old: $20,500 (up $1,000 from 2021)
  • Over 50 years old: $27,000 ($6,500 included for “catch-up”)

Contribute to a traditional IRA

Individual retirement accounts (IRAs) are not sponsored by your employer. As the name implies, they are for individuals, meant to encourage people to save for retirement by offering tax incentives for those who participate. As far as eligibility, anyone who has earned income can open one.

2022 annual IRA contribution limits:

  • Under 50 years old: $6,000
  • Over 50 years old: $7,000 ($1,000 included for “catch-up”)

It’s important to note that while retirement savings accounts can be a great way to lower your taxes, they come with stiff penalties if you decide to withdraw early. Money held in an IRA usually can’t be withdrawn before age 59½ without incurring a 10% fee. Moreover, these dollars will also be taxed at your current tax rate at the time of withdrawal, so make sure whatever money you put in today, you won’t need tomorrow.

Contribute to a health savings account 

Health savings accounts (HSAs) can also help reduce your taxable income. If your employer offers one, you might want to consider contributing to an HSA much like you would a 401(k). While the purpose of the two accounts is different, the mechanics are very similar.

HSAs allow you to reduce your taxable income (up to an annual limit) and grow your investments tax-free. And, once you reach age 65, withdrawals for non-medical purposes will be taxed as ordinary income. HSAs are also exempt from required minimum distributions (RMDs).

Ways to lower your taxes in retirement 

Contribute to a Roth IRA

Roth IRAs are a great way to enjoy tax-free income in retirement, but you have to contribute to them while you are still working. The contribution limits are the same as a traditional IRA, but the tax treatment is the opposite. 

All contributions to Roth IRAs are made with post-tax dollars, meaning you cannot take a deduction. While this isn’t helpful while you are still working, the benefits come after you turn age 59 ½. At this point, as long as you have held the account for at least five years, you can begin to withdraw your principal and interest, tax-free.

Your eligibility is based on your Adjusted Gross Income (AGI). The limits for 2022 are as follows:

  • For Single Filers: AGI must be below $144,000 
  • For Married Filing Jointly: AGI must be below $204,000

*Higher earners may still be eligible to convert traditional retirement accounts to a Roth.

Give back

Fewer people are itemizing their taxes since The Tax Cuts and Jobs Act almost doubled the standard deduction. However, there are still ways to boost your return through charitable donations.

Donor-advised Funds

One option is to invest in donor-advised funds. These 501(c)(3) accounts grow tax-free until you choose to donate the money to a qualified charity. Since everyone’s situation is different, I advise you to speak to a tax advisor and a financial advisor to see if investing in one of these funds is right for you. If it is, it may help you exceed the standard deduction and allow you to itemize at tax time.

Qualified Charitable Distributions 

When you turn 72 (or 70 ½ if you turned 70 ½ before January 1, 2020), you generally have to start taking withdrawals from your IRA, SEP IRA, SIMPLE IRA, or retirement plan. These accounts have been growing tax-deferred for quite some time, and the IRS wants their piece of the pie. The government calls these withdrawals “Required Minimum Distributions” (RMDs). As the name implies, they are mandatory, and levy a hefty fifty percent penalty for those who fail to comply.

RMDs can be a tax burden to those that don’t need or want extra income added to their existing earnings. They can even bump someone up into a higher tax bracket in some cases. And while there is no avoiding the withdrawal of your tax-deferred dollars, there is a way to send them to a good home—outside of the IRS—and allow you to stay in your existing tax bracket.

Qualified Charitable Distributions (QCDs) allow individuals to transfer their required minimum distributions directly to a qualified charity, up to a limit of $100,000. QCD limits apply to individuals and cannot be shared among spouses.

Depending on your tax status, QCDs can help keep your retirement income (social security benefits and other sources) lower and possibly help avoid being disqualified from claiming other tax breaks.

Retirement tax planning is an important step in ensuring that you have the resources you need to enjoy your golden years. If you haven’t started yet, don’t worry – there’s still time! The sooner you start, the more options you will have available to you and the more money you can save.

Rowlette and Associates, LLC DBA: South Shore Retirement Services – an affiliated company – is an independent financial services firm offering both insurance and investment services. Investment advisory services are offered only by duly registered individuals through AE Wealth Management, LLC (AEWM). AEWM and Rowlette and Associates, LLC DBA: South Shore Retirement Services not affiliated companies. Investing involves risk, including the potential loss of principal. Any references to protection benefits, safety, security, lifetime income, generally refer to fixed insurance products, never securities or investment products. Insurance and annuity product guarantees are backed by the financial strength and claims-paying ability of the issuing insurance company. Our firm is not affiliated with or endorsed by the U.S. Government or any governmental agency. Neither the firm nor its agents or representatives may give tax or legal advice. Individuals should consult with a qualified professional for guidance before making any purchasing decisions. 1295653 – 04/22

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