A recent report published by the Transamerica Center for Retirement Studies, a non-profit organization, revealed that the greatest fear among workers aged 50+ is outliving their savings and investments; this data certainly isn’t surprising given that the average retiree household spent $57,818 in 2022 (with this number only growing over time).

In this post, we’ll explore a few strategies and tactics to reduce taxes during your golden years so you can maximize your income and enjoy a more gratifying retirement.

Familiarize yourself with RMDs

Required minimum distributions (RMDs) are the minimum amount of money one must withdraw from specific tax-deferred retirement accounts (including 401(k)s, 403(b)s, and traditional IRA accounts) beginning at age 73. This stipulation will climb to age 75 beginning in 2033.

Though you must take RMDs by December 31 each year, a couple of options are available with respect to taking your very first one (e.g., those turning 73 in 2024 can do so by either December 31, 2024 or April 1, 2025). No matter which option you choose, however, you’ll need to take your second RMD by December 31, 2025—knowing that if you fail to take the full amount of your RMD by the required deadline, you may face a hefty penalty and be liable for up to a 25% tax on the amount not withdrawn.

Avoid or postpone RMDs

If you’re fortunate enough to leave your 401(k) or IRA funds untouched for a few years, you may want to look into various RMD avoidance or reduction strategies.

For example, one common RMD avoidance tactic is to roll over some of your savings into a Roth IRA: an account that lacks RMD mandates over the span of your lifetime, meaning earnings can grow tax-free for as long as you’d like!

The biggest drawback to this approach, however, is the need to pay taxes on the amount of money converted (as you’re moving pre-tax money). Conversions are thus sometimes expensive but worthy of consideration, especially during years when your income is lower than usual or before federal tax brackets are set to increase.

Another popular strategy is to utilize a “qualified longevity contract” (or QLAC), allowing you to invest (or carve-out) up to $200,000 (adjusted annually for inflation) in a special type of deferred income annuity designed to prevent you from outliving your savings. With this strategy, money invested is dropped from your IRA or 401(k) balance and therefore not subject to RMD mandates.

You can also opt for an “in-kind transfer,” making an RMD distribution from your retirement account (rather than cash) and thus essentially moving your stocks/investments from your tax-advantaged account into a taxable investment account—such as a brokerage account—without liquidating shares. While in-kind transfers are taxable, this strategy is sometimes useful when markets are down given that you’re paying income tax on securities of relatively low value and only paying capital gains rates on their future growth.

Finally, you can also take advantage of the “qualified charitable distribution (QCD) rule” that boasts a few benefits including the option to transfer up to $100,000 from a traditional IRA account to an IRS-qualified charity every year rather than pay taxes.

Make strategic withdrawals

Knowing how much money you can afford to withdraw isn’t enough; you’ll also need to know how and when to withdraw from each type of account (e.g., taxable, tax-deferred, and tax-free). Doing so can help minimize taxes you’ll pay out in a given year.

For example, depending on your situation, it may be more tax-efficient to take smaller distributions from your retirement accounts during your 60s so you can spread out your tax liability over additional years—potentially reducing your tax bill over your lifetime in the process.

Consider tax-free investments

A municipal bond (also called a “muni”) is a type of debt security issued by a city, county, state, or other government entity to fund expensive and long-term capital projects (e.g., highway, school, airport, and bridge construction). The largest benefit of investing in a municipal bond is the corresponding tax break, as the interest earned is typically exempt from federal taxes; if you live in the state where the bond was issued, you’re sometimes exempt from state taxes as well.

Treasury bonds, meanwhile, are essentially risk-free and offer fixed-rate interest payments with a maturity range of 10 to 30 years as investments that are often exempt from state and local taxes.

Live in a tax-friendly state

States deemed the most “tax-friendly” ultimately depends on a retiree’s unique financial circumstances and several related variables such as retirement income sources, income amount, and the value of assets left to heirs.

For example, if you plan to rely on Social Security to fund most of your retirement, the most tax-friendly states from your perspective are perhaps those that don’t tax Social Security income.

Determine your health savings account (HSA) eligibility

A health savings account, or HSA, is another worthy investment to consider as you navigate taxes in retirement: allowing you to set money aside for medical expenses on a pre-tax basis via payroll deductions or by using after-tax money and then claiming contributions as a tax deduction come tax time. You can then use these funds to cover deductibles, copays, and other healthcare expenses.

While several benefits are associated with HSA investments, the most notable is the absence of a deadline to use your funds; any money left in your account at the end of each year simply rolls over and remains there indefinitely until it is used. Account funds also grow tax-deferred and you’re never required to pay taxes on the same, provided you spend on qualified health costs.

Delay collecting Social Security benefits

While you can claim Social Security benefits as early as age 62, that doesn’t necessarily mean you should! Many advantages come from waiting until you reach full retirement age (FRA) to do so, including the (significant) fact that more money awaits if you do—with the amount growing about 7% for each year you wait until reaching your FRA (when you first become entitled to your full SS benefits). If you wait even longer, this rises to approximately 8% each year between your FRA and age 70.

Another potential benefit of waiting to claim Social Security benefits involves taxes. Your Social Security benefits are generally taxed when your income exceeds $25,000 per year ($32,000 if you’re married and file jointly). If you draw down other assets (most notably taxable ones) while delaying Social Security, there will be fewer of the same to tax—potentially reducing the amount of SS benefits subject to taxation.

Focus on longer-term investments

When you sell an asset (such as a stock, bond, mutual fund, or even a home or piece of art), you’re required to pay a capital gains tax on the profit. How exactly each asset is taxed—and the corresponding rate—is determined by how long you’ve held the asset and your income.

For example, if you’ve held the asset for less than a year, you’ll pay a short-term capital gains tax (as much as 37%). Hold the asset for longer and you’ll pay a more favorable long-term capital gains tax of no more than 20% (for most assets).

In sum: how to maximize your income during retirement

You’ve worked so hard for your money; don’t give Uncle Sam more than his fair share! That said, understanding various tax implications of your income and investments isn’t so easy—which is precisely why we recommend working with a financial advisor who can steer you toward smart decisions that will land you in a better position to enjoy your retirement.

Want to make sure you get the most out of your retirement? Schedule a FREE Discovery call with one of our CFP® professionals.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and is not intended to provide specific advice or recommendations for any individual or business.

There is no assurance that the techniques and strategies discussed are suitable for all investors or will yield positive outcomes.  Investing involves risks including possible loss of principal. Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price. Municipal bonds are subject to availability and change in price. They are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise. Interest income may be subject to the alternative minimum tax. Municipal bonds are federally tax-free but other state and local taxes may apply.  If sold prior to maturity, capital gains tax could apply. This information is not intended as authoritative guidance or tax advice.  You should consult with your tax advisor for guidance on your specific situation.