Taxes in Retirement


Death and taxes might indeed be the only certainties in life. But consider that you have some control over your taxes.

You can’t plan for retirement income without taking taxation into account. Until the other inevitability comes to pass, the IRS will continue taking its share—and it can be a doozy. Retirement income planning can ease this burden substantially, if you’re smart.

Let’s look at the tax implications of a few potential retirement income sources. Keep in mind that tax laws are subject to change, and this information is only a guide; we recommend you seek guidance from a licensed tax professional.

Tax Considerations for Retirement Income Sources

  • Social Security – Because this money comes from the government, you might think you get to keep it all. Unfortunately, up to 85% of your Social Security income can be subject to taxes. How much depends on the total amount of your income.
  • Defined Benefit Pensions – If you’re lucky to have one, your checks get taxed just like any other income. Check with your pension administrator for details.
  • Traditional IRAs and 401(k)s – These are typically funded with pre-tax dollars. When you make withdrawals, either before or during retirement, they’re taxed as income.
  • Annuities – Taxability depends on the annuity type. An immediate annuity may be bought with after-tax dollars and the premium, or basis, is not taxable. The interest associated with the income payment is taxable. Withdrawals from annuities purchased with pre-tax dollars are taxed as income, as are gains on your principle. Consult a tax professional or a licensed insurance professional to help you fully understand the tax advantages of an annuity.
  • Municipal bonds – You won’t have to pay federal, state or local income tax on municipal bond income as long as you live in the same state or municipality as the issuer. However, you may be taxed on any gains you make by selling a municipal bond bought on the secondary market.
  • Stocks, non-municipal bonds, and mutual funds – Tax types and rates vary, depending on the type of the investment and the duration you’ve held the investment.

If the ever-evolving tax laws and investment guidelines have your head spinning, remember this: you never have to pay income taxes on the same money twice.

If you’ve contributed pre-tax dollars to any kind of vehicle, including a qualified annuity, or qualified retirement account, you’ll be taxed on that money eventually. Likewise, you’ll be taxed on any gains or earnings you receive from your investments. But if your retirement income is funded with after-tax dollars, then only the gains on the premium are taxable; the payout of the premium will be income tax-free.

Create a Forward-Thinking Tax Strategy

A forward-thinking tax strategy for those nearing retirement is crucial for a variety of reasons. First, it can ensure retirees have sufficient funds to support themselves throughout retirement. By reducing tax liabilities, they can keep more money, increasing savings. Secondly, a well-planned strategy helps them avoid taxes on required minimum distributions and penalties, keeping tax burdens low. Finally, a tax strategy can help pass on wealth by reducing estate taxes, providing for loved ones in the future. As such, it’s vital to work with financial advisors and tax professionals to develop a tax-efficient plan for retirement.