RMDs, IRAs, 401Ks and Other Alphabet Soup That Has a Big Impact on Your Taxes

“Tax withholding by your employer can cause you to not think much about taxes until you file your returns each year. Unfortunately, that means when you retire you could underestimate the impact taxes have on your retirement distribution strategy and put your retirement plan at risk.”

-Ed Slott

As the saying goes, nothing in life is as certain except for death and taxes. And yes, being concerned about your taxes follows you into retirement, especially when tax laws and regulations seem to be in constant change. No surprise then that new changes proposed in the SECURE Act 2.0 legislation could also add to the looming uncertainty about how much of your own money you actually get to keep. That is why it is vital that Americans get accurate information to help avoid excessive taxation and protect the assets they’ve spent a lifetime building.

Good News/Bad News

The good news – according to research by the Investment Company Institute and the Internal Revenue Service, tax rates fall in most households in retirement. One caveat – if you are a high earner and have significant tax deferred savings, your retirement tax bracket may not be lower. Careful planning can help you reduce your tax burden.

The bad news – many sources of your retirement income may add to your tax burden. Withdrawals from your tax deferred savings accounts (IRAs, 401ks, pensions, etc.) are treated as taxable income. And if your income is high, it can cause your social security benefits to be taxed and also prompt surcharges on your Medicare premiums.

WATCH Your Money Map: Taxes & Retirement 2022

Ed Slott, CPA and founder of IRAhelp.com, joined Jean Chatzky on Your Money Map to discuss taxes and retirement in 2022 on April 6, 2022.

IRS Changes That Could Hurt You

IRAs – non-spouse beneficiaries can no longer “stretch” IRA payouts out over their lifetime. This means if you inherit an IRA, distributions will be over ten years which may cause you to be in a higher tax bracket.

RMDs – the majority of Americans take more than the required minimum distribution (RMD) from their tax deferred accounts, but the proposed change to extend the RMD age to 75 may negatively impact you if you have large tax deferred savings.

Trusts – Naming trusts as IRA beneficiaries may no longer work due to the changes from the SECURE Act. Most estate plans will need to be updated or even overhauled.

Things That Can Help You

Some investment vehicles whose tax advantages haven’t changed – Roth IRAs, Roth 401ks, and tax deferred annuities.

While these investments are not tax-deductible like most IRAs and 401ks, Roth IRAs, Roth 401ks, and tax deferred annuities can offer you powerful tax advantages. Roth IRAs and 401ks do not have a mandatory distribution age and when you make a withdrawal it comes out tax free. You will owe income tax on any appreciation in a tax deferred annuity; however, they allow a longer tax deferral period than IRAs and 401ks (some as late as age 95). And the longer you delay paying taxes, the greater chance your money can grow. Annuities are also one of the only solutions to securing a steady source of guaranteed income for the rest of your life in retirement.

Smart Retirement Portfolios

Remembering the potential impact of the many types of taxes that can affect your nest egg – e.g., capital gains and ordinary income taxes – is critical to being tax smart in retirement. A Morningstar analysis found that, on average, over a 93-year period ending in 2019, investors gave up about two percentage points of their annual returns to taxes. The benefit of tax deferral can be immense, allowing your investment to compound tax free from investment growth, dividends, and interest for decades, enhancing your investment and potential retirement income.

Some additional ideas shared by CPA, Ed Slott, to help Americans wisely plan for their taxes:

  • Choosing the right time and amount to start taking your money out of retirement account could help you escape huge tax bills and penalties.
  • Contribute or convert your current traditional IRA to a Roth IRA.
  • Life insurance as a replacement to stretch IRAs.

Ed is a nationally recognized IRA distribution expert, professional speaker, television personality, and best-selling author, and was a recent guest on the Alliance’s Your Money Map show hosted by Jean Chatzky. He is known for his unparalleled ability to turn advanced tax strategies into understandable, actionable, and entertaining advice. He has been named “The Best Source for IRA Advice” by The Wall Street Journal and USA Today wrote, “It would be tough to find anyone who knows more about IRAs than CPA Slott.”

Head to protectedincome.org to learn more about planning for income in retirement, and the tax deferral and other advantages of protected income.

  • This field is for validation purposes and should be left unchanged.

Stay informed with the latest updates on protected income planning.