When planning for your retirement, chances are you’ve been focused on accumulating enough money to last throughout your non-working years — but have you thought about income taxes once you retire?

They’ll play a big role in your future, and understanding how to manage them now may help you from paying out more to Uncle Sam than you need to later.

Here are two keys to taxes in retirement:

Reduce your investment income.

The income from your investments must be included in your gross income when you file taxes every year, so you may want to consider the tax efficiency of your investments — for example, taxes on capital gains can be lower than taxes on interest and dividends. Tax efficient investments can help reduce the taxes on your investments and may also help minimize the tax on your Social Security benefits. One way you can lower your investment income is by giving income-producing investments like certain stocks to your relatives.

Know your retirement tax brackets.

While most can expect to be in a lower tax bracket after retirement because of lower earnings, it doesn’t always work out that way. If you have large balances in certain tax-deferred retirement plans — such as a 401(k) or IRA — you’ll need to start taking mandatory distributions once you reach age 70½ (unless you continue to work, in which case you’re not required to take an RMD from your employer-sponsored 401(k)). The more you have in your retirement plans, the more you’ll have to withdraw each year, and these withdrawals are considered taxable income. Paying Uncle Sam a percentage of those retirement funds could hurt your ability to cover everyday expenses, healthcare costs, and other needs.

If you think the money you’ll be required to withdraw from your retirement plans could push you into a higher tax bracket after you reach age 70½, you may want to consider taking some of that money earlier. And the good news is that you can start taking withdrawals without penalties as early as age 59½. By managing your distributions during your early retirement years, you may be able to prevent a tax-bracket problem later. (Learn more about required minimum distributions here.)

Roth accounts, such as Roth IRAs and Roth 401(k)s, can also be helpful in managing taxes during retirement.

Understanding taxes is always a challenge, and it can become even more difficult when you’re retired. If you’re preparing for life after your career, help yourself by figuring out now what taxes you’ll be facing later. You will have worked hard to reach your retirement years — don’t let unexpected or unnecessary taxes put a damper on them.


Some information sourced from Broadridge Investor Communication Solutions, Inc.
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The information provided is general in nature, is for informational purposes only, and should not be construed as legal or tax advice. Financial Engines does not provide legal or tax advice. Financial Engines cannot guarantee that such information is accurate, complete, or timely. Laws of a particular state or laws which may be applicable to a particular situation may have an impact on the applicability, accuracy, or completeness of such information. Federal and state laws and regulations are complex and are subject to change. Changes in such laws and regulations may have a material impact on pre- and/or after-tax investment results. Financial Engines makes no warranties with regard to such information or results obtained by its use. Financial Engines disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information. Always consult an attorney or tax professional regarding your specific legal or tax situation.