Whether you’re on the cusp of retirement or you’ve been in retirement for a few years now, making the right financial moves is critical. It doesn't matter if you’re working with an advisor or taking a look at your finances yourself, one central goal during retirement should always be to avoid the avoidable taxes.
Often times, you can avoid paying more taxes - but usually, this requires proactive action beyond tax season. Below are four tips you can utilize throughout the year to help minimize your tax obligations in retirement.
Tip #1: Take Your Required Minimum Distributions (RMDs)
An RMD is an amount, set by the federal government, that must be withdrawn from a pre-tax retirement account. These required withdrawals begin when you reach age 72. The rules apply to employer-sponsored retirement plans, traditional IRA plans and Roth 401(k) accounts, but they don’t apply to Roth IRAs when the account owner is still alive.
Taking RMD's is solely the responsibility of you, the account owner. Some IRA custodians and retirement plan administrators might find out what your RMD is for you, but the responsibility ultimately falls on you. To find out what your RMD is, the IRS provides life expectancy tables to utilize according to your circumstances. If you do not withdraw your RMD or miscalculate your RMD, the amount not withdrawn will be taxed at 50 percent. This is one of the stiffest penalties in the entire tax code. That's why it’s critical got you to avoid this easily avoidable tax.1
It’s important to note that as part of the Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, passed on March 27th, 2020, RMDs are not required for 2020.2
Tip #2: Manage Your Income Combinations
As a retiree, a portion of your income will likely come from Social Security. However, some of your benefits may be taxable, and there are ways to minimize or, at times, eliminate taxes on your Social Security benefits.
If half of your Social Security benefits combined with your other sources of income are above the threshold for your filing status, your benefits will be taxed. By strategically managing all of your income sources (such as pension payments, dividends, or part-time jobs) with a forward-looking tax plan, it’s possible to lower the portion of benefits that will be taxed. If your benefit is taxed, it could have a massive impact on your retirement.
Rules regarding Social Security income taxes also vary from state to state, so always check with your state regulations to determine the best solution for you.3
Tip #3: Figure Out if You Need to Pay Quarterly Taxes (If Not, You May Decide to do it Anyway)
If you don’t have taxes withheld automatically, you may need to pay estimated tax payments. Individuals who are expected to owe $1,000 or more - or those whose withholding and refundable credits are 1) less than 90 percent of the tax owed or 2) at least 100 percent of the tax on the previous year’s return - must pay estimated tax.
In some cases, you might decide to pay quarterly taxes, even if you are not required to, in an effort to avoid the inconvenience of paying a large sum all at once. If you miss a payment or underpay, you may be charged a penalty.4
Tip #4: If You’re Moving to a New State, Get to Know Its Tax Laws
If relocating is a part of your retirement plans, consider the impact of the move on your finances. There can be stark differences from state to state. For example, some states, like Florida and New Hampshire, don’t tax on income or only tax on dividends and interest.5 Other states may have higher property taxes. For example, New Hampshire’s property taxes are relatively high compared to the rest of the country.6 In addition to an ideal climate, you might decide to move to a new state in an effort to save on taxes.
In many cases, an individual or couple is working with a fixed amount of resources to get them through retirement, which is why taking the right financial steps is essential. By working with a qualified advisor and keeping these tips in mind throughout the year, you can make sure you’re avoiding the avoidable taxes where possible.
If you're someone who takes action to take a proactive approach to tax planning, schedule a free 20 minute call today!
|About the Author|
James M. Comblo , CFF
is a Partner and the Chief Compliance Officer at FSC Wealth Advisors. His greatest passion in the financial services industry is helping clients accomplish their dreams both with investments and their personal lives. To learn more about him click here.
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