Tax Efficient Retirement Requires Planning

Large retirement account balances can cause tax problems

Putting off distributions and holding assets in your retirement accounts as long as possible may seem like a good idea, but waiting too long can cause a major tax problem. When you reach age 73, the trigger requiring minimum distributions (RMDs) from qualified retirement accounts is initiated, potentially causing unwanted tax obligations.​

RMDs explained
Required minimum distributions is a formula applied to traditional IRAs, SEP IRAs, SIMPLE IRAs, 401(k), 403(b) and other defined contribution plans that calculates how much you must withdraw from your retirement accounts each year. If you fail to take out the minimum distributions, amounts not distributed on a timely basis can be subject to a 25% penalty (or 10% if the problem is corrected within two years).

ALERT: Prior to 2023, the RMD penalty was a whopping 50%!
Thankfully, there are other beneficial rule changes that impact required minimum distributions:

No distributions required while you are still working. You may now delay withdrawing funds from employer plans like a 401(k), past age 73 as long as you are still working and are not a 5%-or-greater owner of the company.

RMD rules are different for Roth accounts. Roth IRAs are not subject to the RMD rules while you are still living. And beginning in 2024, Roth 401(k) and Roth 403(b) minimum withdrawals are not required.
The RMD rules ensure the deferred tax benefit for certain retirement accounts does not extend indefinitely into the future. In other words, the IRS wants their cut by applying income taxes to your tax-deferred savings account balances. The amount you must take out each year is based upon your age, your spouse’s age, and your filing status.

The tax planning opportunity
If you wait to start taking money out of your retirement accounts, the balance in your accounts may be very high when you reach age 73. These higher balances mean a higher annual taxable withdrawal amount. If your required retirement plan distribution is large enough, it may apply a higher marginal tax rate on your withdrawals, and trigger taxes on your Social Security benefits. Depending on your income and filing status, up to 85 percent of your Social Security benefit can be subject to income tax.
The key is to be tax efficient in your withdrawals every year, and long before the required minimum distribution rules take away your planning flexibility.
Some tips

• Plan withdrawals. Once you hit age 59½, you may withdraw money from qualified, tax-deferred retirement accounts without experiencing an early withdrawal penalty. To reduce future tax risk on your Social Security benefits, manage annual disbursements from your retirement account(s) to be more tax efficient when you reach age 73.
• Start receiving Social Security. You may begin full Social Security benefits after reaching the minimum retirement age. But remember, your benefit amount can increase if your start date for receiving Social Security benefits is delayed until age 70. Consider this as part of your plan to be tax efficient.
• See an advisor. There are many moving parts in planning for retirement. These include Social Security benefits, pension plans, savings, and retirement accounts. Ask for help to create the proper plan for you and your family. One element of the plan should include being tax efficient to avoid the tax torpedo.

"Tax Tips" are published to provide current tax information, tax-cutting suggestions, and tax reminders. If you would like more information on anything in "Tax Tips," or if you'd like to be on our mailing list to receive other tax information from time to time, please contact our office.
 
The tax information contained in this site is of a general nature and should not be acted upon in your specific situation without further details and/or professional assistance.
 
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Mia Verc, CPA;  Janice Papais, CPA