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Tax-savvy Retirement Planning

An essential part of retirement planning is determining how much income you will need to meet expenses in the years after you’ve finished working. Don’t overlook the impact of taxes on your retirement income. The paycheck you create will likely come from taxable, pre-tax, and after-tax sources. You are responsible to make sure the appropriate taxes are paid.

Confident and happy pre-retirees, retirement plans, couple reviewing statements on ipad from patio, background includes green grass and mountains
Are you confident in your retirement plan’s tax strategy?

Remember, at the end of the day, your expenses will be paid with after-tax dollars during retirement.


Will you pay higher taxes in retirement?

Many people assume their tax rate in retirement will be lower than in pre-retirement years. However, this isn’t always the case. In fact, it largely depends on how your retirement paycheck is generated.


When you enter retirement, your money isn’t just sitting there waiting for you to spend it. It is a nest egg meant to help with 20 to 30 years of living expenses and perhaps leave money for your grandkids or favorite charity. While you may have cash in the bank, the majority of your nest egg is invested. As you move through retirement, your nest egg grows and compounds before being sold off and moved to your cash savings. When taxable or pre-tax investments are sold, this can create taxable income.


If you work part-time or draw an annuity or pension, this will also create taxable income. Consider the role Social Security will play in your retirement. When do you plan to start to take Social Security benefits? If you have a spouse, when do they plan on taking benefits? It’s critical to address Social Security, pension, and annuity timing questions so you have an understanding of how much they will affect your taxable income and your federal tax liability.


What’s a pre-tax investment?

Traditional IRAs and 401(k)s are examples of pre-tax investments that are designed to help you save for retirement. You won’t pay taxes on the contributions you make to these accounts until you start to take distributions. Pre-tax investments are also called tax-deferred investments, as the money you accumulate in these accounts can benefit from tax-deferred growth. You might even receive a tax deduction when you add savings to pre-tax investments.


Keep in mind that once you reach age 73, you must begin taking required minimum distributions (RMD) from a traditional IRA, 401(k), and other defined contribution plans in most circumstances. Beginning in 2033, the age you must take RMDs bumps up to 75. Withdrawals are taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty.


What’s an after-tax investment?

A Roth IRA is the most well known after-tax retirement investment account. When you put money into a Roth IRA, the contribution is made with after-tax dollars. Like a traditional IRA, contributions to a Roth IRA are limited based on income. For 2022, contributions to a Roth IRA are phased out between $204,000 and $214,000 for married couples filing jointly and between $129,000 and $144,000 for single filers. If you are not eligible for Roth contributions, your financial advisor can evaluate whether it makes sense to convert your pre-tax investments to a Roth IRA account.


To qualify for the tax-free and penalty-free withdrawal of earnings, Roth IRA distributions must meet a five-year holding requirement and occur after age 59½. Tax-free and penalty-free withdrawal can also be taken under certain other circumstances, such as the owner's death. The original Roth IRA owner is not required to take minimum annual withdrawals.


Do Roth conversions make sense?

Sometimes it is better to do Roth conversions to reduce or avoid future RMDs depending on your current tax situation and liquidity profile. In the years leading up to retirement, if you have cash to pre-pay tax on IRAs by converting them to Roth, you could potentially reduce your lifetime tax liability by hundreds of thousands or millions of dollars.


Your financial advisor can help model these savings using financial planning tools and making reasonable assumptions about tax brackets and investment returns.


Forecast your tax burden.

With the help of your financial advisor, you can load your taxable, pre-tax, and after-tax income sources into planning software. By making some assumptions and including planned annuity, pension, or social security earnings, your federal and state tax liability can be forecast. This provides an opportunity to evaluate whether to keep contributing to after-tax or pre-tax accounts in the years leading up to retirement. It also helps with decisions on Roth conversions and when to start taking annuity or social security payments.


Depending on your level of wealth, Roth conversions could potentially save you and your heirs hundreds of thousands of millions of dollars across several decades.


Final thought.

Are you striving for greater tax efficiency? In retirement, it is especially important – and worth a discussion. Preparing for taxes well in advance can have a significant impact on how long your assets last in retirement. A few financial adjustments may help you reduce your tax liabilities.


If you have more than $2 million saved and need help from a wealth manager, the Peak Wealth Planning team can assist.

Peak Wealth Planning specializes in helping high-net worth individuals and families plan for the future.


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About the Author

Peter Newman is a Chartered Financial Advisor (CFA) and president of Peak Wealth Planning. He works with individuals nationwide that have accumulated wealth through company stock, ESOP shares, real estate, or running a business. Peter applies his unique background to help clients achieve their specific goals and enjoy peace of mind.


Peak Wealth Planning provides concierge services to meet your wealth management needs. Services include: financial planning, investment management, esop diversification, retirement income, insurance, and estate planning advice. Peak Wealth Planning is a fee-based financial advisor based in Champaign, Illinois, and Fraser, Colorado.




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