Are you retired—or planning to be? Today, I cover the 5 key things you need to know about your taxes!

(Video is 5 minutes. The full transcript is below.)

Full Transcript of video

Hey friends, the Fearless Advisor here. Today I am going to discuss five things you should know about taxes in retirement.

When planning for expenses in retirement, it’s easy to think about travel and vacations while overlooking the one expense that will eat the most of your income—taxes. Fortunately, it’s also the only one that feels good to cut down on.

Let’s review five things you need to know about taxes in retirement.

#1: Tax Rates Are Not Always Lower

Many retirees assume that taxes will go down once they leave the workforce, but this isn’t always the case.

Retirees don’t have the same tax deductions as employed individuals do, like contributing to a 401(k) plan. Having a paid-off home is an accomplishment, but it also means no mortgage-interest deduction.

Investment withdrawals are a main source of retirement income, and they are subject to capital gains taxes. Depending on your spending and other forms of income, you could end up with a similar tax rate to when you were employed.

#2: Required Minimum Distributions

RMDs from Traditional 401(k) and IRAs start at age 72. The percentage of the RMD is based on the account value and life expectancy—so it has the potential to increase every year. That means your income could go up, and the amount you can keep invested for later in retirement goes down.

One solution is a Roth conversion. There’s no income limit to convert to a Roth, but you have to pay the taxes you originally deferred.

Once converted, these funds grow tax-free and could be withdrawn tax-free upon meeting the holding requirements. Roth IRAs are not subject to RMDs. This level of income control is important because income starts to impact other retirement benefits.

#3: Taxes on Social Security and the Medicare Surtax

Social Security isn’t tax-free. Up to 85% of social security benefits are taxable, depending on your income level. And Medicare is means-tested as well, which can result in a surcharge on the Part B and Part D premiums. The surcharge is triggered by your income, but it’s a different income calculation than for your taxes. This one includes tax-exempt interest income, like the kind from municipal bonds.

If you have a year where your income is bumped up—like by selling a property or withdrawing more to fund a vacation—you may pay a Medicare surtax. At the highest level, the surcharge adds more than $400 per month to Part D premiums.

How can you avoid it? This is where the benefits of the Roth conversion really shine since withdrawals are tax-free. Strategies like tax-loss harvesting also help, as they can offset capital gains.

#4: Standard Deduction Increases

Ready for some good news? The standard deduction for those who are married, and file jointly is $25,900 for 2022. If both spouses are over the age of 65, that amount increases by $2,700.

Deciding on whether to take the standard deduction simply comes down to running the numbers and determining if itemizing would provide a larger deduction than the standard route.

#5: Estate Planning

The estate tax exemption increased for 2022 due to inflation and it’s now $12,000,060 per individual. This is a lifetime exemption on gift and estate taxes, but it’s not permanent. It’s scheduled to drop back to $5,000,000 in 2026. Individual gifts of up to $16,000 per person do not apply to this lifetime exemption.

Here are some strategies to think about:

• Review your gifting strategies to take advantage of the current high exemption.
• Think about setting up a trust. This can be used to gift to family in a tax-advantaged way or provide income for yourself and gift the remainder.
• Taxes in retirement play a big role in overall expenses, and they need to be managed carefully. Nobody wants to pay Uncle Sam more than they have to.

There are a lot of planning options, and you can begin developing a strategy that helps you keep the most money in your pocket.

If you are preparing for or are retired and would like to review your tax strategy, please reach out to us here at F5 Financial. Thanks for joining us!

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