Retirement Basics: Understanding Tax Efficiency

One of the basics in retirement is to be as tax efficient with your income as possible. In 2019, income tax rates range from 0% to 37%, plus a potential 3.8% net investment tax. Understanding how these progressive tax rates apply to ordinary income creates planning opportunities in retirement.

The basic concept

Many retirees have the ability to control their taxable income each year by varying the amount they work and the amount they withdraw from retirement savings accounts like IRAs and 401(k)s. When your income drives you into a higher income tax rate, you will need to decide if you want to maximize the tax rate applied to this range of income.

For example, assume you are a single taxpayer with $10,000 in retirement income from a part-time job. You also have $150,000 savings in a 401(k) retirement account. The income range and applicable tax rate for a single taxpayer in 2019 is as follows:

Tax Rate	Taxable Income*
10%	$1 – $9,700
12%	$9,701 – $39,475
22%	$39,476 – $84,200
24%	$84,201 – $160,725
32%	$160,726 – $204,100
35%	$204,101 – $510,300
37%	Over $510,300

In this example, excluding other variables, you would have the opportunity to withdraw an additional $29,475 from the 401(k) at an income tax rate of 12 percent. Income beyond this amount will be taxed at 22 percent or higher.

* Note: Taxable income typically includes wages, interest, non-qualified dividends, short-term capital gains (assets owned for one year or less), taxable Social Security benefits and withdrawals from most 401(k), 403(b), and non-Roth IRAs.

Other factors

Unfortunately, planning for tax-efficient retirement is never simple. There are other things to consider:

• Your age
• The taxability of your Social Security benefits
• Income phase-outs for other tax benefits
• Required minimum distributions at age 70½ or older
• Your state tax situation
• Other taxes, such as estate taxes, inheritance taxes, and capital gains taxes

What to do?

Making tax efficiency an integral part of your retirement plan can be complicated. But the rewards are tremendous for those willing to start early and dedicate the time to planning. If you would like help evaluating your own situation, please contact our office and we would be happy to help.