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Income Tax Minimization Strategies

You may leave behind a lot of things when you retire, but your tax burden isn’t one of them. In fact, without proper income tax minimization strategies, taxes can potentially be an even bigger burden in retirement. The keys to avoiding that problem are awareness and planning.

First, let’s talk about how different sources of retirement income are taxed. Let’s start with the good news. If your only source of retirement income is Social Security, you probably won’t pay any taxes. That’s because Social Security income – by itself – is tax exempt.

Now for the bad news. If you’re like most people, Social Security won’t be enough. You’ll need other sources of income, which means a portion of your Social Security income probably will be taxed. As for how much will be taxed, it varies, but it can run as high as 85 percent.

For example, you’ll probably pay 85% if you get large monthly income payments from a pension. As for the pension itself, most are funded with pre-tax income. If that’s the case, it means all of your pension income is taxable each year. However, if a portion of your pension was funded with after-tax dollars, then only a portion of the income will be taxed.

As for investment income from interest, dividends, or capital gains, naturally you’ll have to continue paying taxes on that just like you did before you retired.

Now, what if your strategy is to systematically sell investment shares to generate retirement income? In that case, each sale would also generate a long- or short-term capital gain or loss, which you would need to report on your tax return. In most cases, this is a bad strategy.

For most people, their main source of retirement income besides Social Security is the money they have in their 401(k)s and IRAs. Those accounts are tax-deferred until you start taking withdrawals, which the IRS forces you to do starting at age 72 to satisfy your required minimum distributions (RMDs). Your RMDs are unavoidable even if you have plenty of income from other sources.

This is why we will work with you to implement strategies that can help to reduce tax liabilities and minimize taxes when it comes time to start taking withdrawals.