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5 Tax-Efficient Withdrawal Strategies in Retirement

5 Tax-Efficient Withdrawal Strategies in Retirement

Maxime Croll By Friday, 22 March 2024 11:45 AM EDT Current | Bio | Archive

Retirement is a time of many changes, the biggest of which is the shift from receiving income to relying on the wealth accumulated over your working years. This transition isn’t just about ensuring you have enough money to last; it’s also about understanding and minimizing the tax implications of withdrawing from your retirement accounts and other savings vehicles.

Here are five strategies that can help you preserve your nest egg and reduce your tax burden so you can enjoy a more comfortable and financially secure retirement.

Utilize Roth accounts

Roth IRAs and Roth 401(k)s offer tax-free withdrawals in retirement, provided you meet certain conditions. Because you make contributions to these accounts with after-tax dollars, the withdrawals, including earnings, are tax-free.

While you’re still employed and contributing to your retirement funds, consider incorporating Roth contributions into the mix.

While contributions to a Roth IRA have income limitations, Roth 401(k)s have no income limits for participation.

You can also discuss converting a traditional IRA into a Roth with your financial advisor. You’ll have to pay taxes on the conversion, but it can be a smart move if you expect to be in a higher tax bracket in retirement.

Understand the order of withdrawals

By the time you retire, you may have a variety of accounts, including tax-deferred retirement accounts, tax-free accounts and taxable accounts.

The sequence in which you tap into those different sources of retirement income can significantly impact your tax bill.

If your required minimum distributions (RMDs) aren’t enough to cover your spending, it’s generally a smart idea to withdraw from your accounts in this order:

  1. Taxable accounts, like savings and brokerage accounts
  2. Tax-deferred accounts, like 401(k)s and traditional IRAs
  3. Tax-free accounts, like Roth IRAs.

This order of withdrawals allows your accounts with tax benefits to continue growing for as long as possible. And, if you don’t use all of the money in your Roth IRA, you can include it in your estate plan, passing it down to heirs.

Manage your tax brackets

Being mindful of your tax bracket in retirement is crucial. The goal is to avoid unnecessarily pushing yourself into a higher tax bracket to minimize taxes on your Social Security benefits and reduce the amount you need to pay toward Medicare.

Some strategies for managing your tax brackets include:

  • Taking a mix of withdrawals from both taxable and tax-free accounts to maintain a balance between income and tax efficiency
  • Deferring income from selling a business or waiting to tap investments to renovate your home until you’re in a lower tax bracket
  • Paying for qualified medical expenses with a health savings account (HSA) instead of savings, as these withdrawals are also tax-free

Make use of qualified charitable distributions

If you’re philanthropically inclined, qualified charitable distributions (QCDs) offer another way to reduce your taxable income.

Once you reach age 70½, you can direct up to $100,000 annually from your IRA to a qualified charity. This move doesn’t count as taxable income but satisfies your RMD for the year, providing a tax-efficient way to support the causes you care about.

For example, say you normally donate $5,000 per year to your local food bank. Instead of taking your RMD and then writing a check to the food bank, have your IRA custodian send $5,000 directly to the charity.

There are a few things to keep in mind about QCDs:

  • Funds distributed to you and then given to the charity don’t qualify as a QCD
  • The funds must come out of your IRA by the RMD deadline, which is generally December 31
  • Any amount donated over your RMD doesn’t count toward next year’s RMD

Consider a “bucket” strategy

Many retirees worry about running out of money in retirement. They shift their portfolio allocation to safer investments that preserve their capital in case of market downturns. But this can mean losing out on potential market gains.

The bucket strategy provides the best of both worlds. It involves dividing your retirement savings into several buckets based on when you need to access the funds.

For example, your buckets might look like this:

  1. 1st bucket: cash, money market funds and certificates of deposit (CDs) for your living expenses, an emergency fund and other immediate needs (0 to 5 years)
  2. 2nd bucket: bonds and dividend-paying stocks for the medium term (6 to 10 years)
  3. 3rd bucket: growth stocks and alternative asset classes for the long-term (11+ years)

You can adjust the timeframe for each bucket depending on your needs and risk tolerance. However you structure it, the bucket approach helps weather market volatility by ensuring highly liquid funds are available when needed. It also helps with tax efficiency because you navigate market downturns without selling stocks while they’re down.

By being strategic about withdrawals in retirement, you can maximize your income while minimizing taxes and enjoy more secure golden years. Remember, everyone’s financial situation is unique, so make sure you consult your financial advisor to tailor these strategies to your specific circumstances.


Maxime Rieman Croll is senior director, organic content marketing at LendingTree.

© 2024 Newsmax Finance. All rights reserved.

Retirement is a time of many changes, the biggest of which is the shift from receiving income to relying on the wealth accumulated over your working years.
retirement, savings, withdrawal, rmd
Friday, 22 March 2024 11:45 AM
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