As a retiree, there are many changes to look forward to. More free time to spend pursuing hobbies and a less stressful lifestyle centered on relaxation is usually at the top of that list of changes.
What you might not realize are the many ways that tax season changes once you reach retirement age. Getting a heads up about these changes can help you plan and make the best use of your money.
1. Retirement Accounts
If you’ve been socking away money in a tax-deferred retirement account like an IRA or a 401(k), you’ll need to start taking annual withdrawals from them once you turn 70.5 years old. However, if you’re still working after that age, you might be able to delay taking distributions from your 401(K).
Once you do start taking those distributions, you’ll have to pay taxes on them. The amount depends on how much you withdraw and your tax bracket. The exception is Roth IRAs. Though withdrawals are usually required after you turn 70.5 years old, you probably won’t have to pay taxes on them.
2. Beware of Double Distributions
If you’re a retiree who will be turning 70 1/2 in 2018, you’ll have to take your first required distribution from your retirement accounts by April 1st of the following year. Your second distribution — and all subsequent ones — will need to be taken by December 31.
Be careful how you time these distributions. If you delay your first required one too long, you might end up having to take two withdrawals during the same tax year. Not only could this result in a larger-than-normal tax bill but it could even increase your income so much that you get pushed into the next tax bracket.
3. Social Security
If you’re like most people, you’ll have to pay taxes on your Social Security income. To figure out if you’ll need to, tally up your adjusted gross income, half of your Social Security income and any nontaxable interest. If the total is greater than $25,000 for individuals or $32,000 if you’re part of a couple, then you’ll be responsible for paying taxes on half of your Social Security benefits.
Not surprisingly, as your income from these sources — which includes dividends, withdrawals from IRAs and/or 401(k)s, income from a part-time job, interest and pension payments — rises, so does your tax liability on your Social Security income. Individuals and couples who make more than $34,000 and $44,000, respectively, from these sources could be taxed on as much as 85 percent of their Social Security benefits.
4. Distribution Penalties
If you miss a required retirement account distribution after age 70 1/2, be prepared to pay a stiff penalty. This 50 percent penalty is in addition to the income taxes that are normally due on these distributions. For example, if you’re in the 24 percent tax bracket and you didn’t take a $10,000 IRA distribution as required, you’ll owe the majority of that — about $7,400 — in penalties and taxes. You can total the amount of required distributions you have to take and make the withdrawal from a single account or a combination of them.
5. IRA Eligibility
In order to qualify for a tax deduction, many people fund their IRAs just before filing their taxes. Once you turn 70 1/2 though, that tax deduction is no longer available to you because you can’t defer paying income taxes on those new contributions. An exception that you could take advantage of is to contribute instead to a 401(k) plan that is tax-deferred. Older savers can also benefit from the fact that after-tax Roth IRAs don’t have any age restrictions.
6. Capital Gains
Your investments are probably part of your retirement fund so you’ll need to sell some of them. Be prepared to pay taxes on any long- or short-term capital gains that you’ve experienced because of them. While long-term capital gains — applicable to those assets that you’ve held for a year or longer — are usually taxed at a lower rate than some other types of income, you’ll still need to account for them as you figure your retirement expenses.
Armed with the above information, you can better sort out your retirement expenses and income. This will help you achieve your retirement dreams of relaxation and a stress-free life.
Regards,
Ethan Warrick
Editor
Wealth Authority
