By Matthew Gaude & Shawn McGuire
When you take the time to imagine your retirement and map out future plans, chances are high taxes aren’t the first thing you think of. For most people, taxes don’t come to mind until around February, and once tax returns are filed a month or two later, they tend to fade from memory.
However, staying aware of taxes year-round is a critical part of any solid financial plan, as proper tax planning allows for opportunities to reduce your tax liability—especially in retirement when you’re tapping into your accounts. Let’s explore six effective strategies to help you save on your taxes during retirement.
1. Limit Your Exposure to the 3.8% Medicare Surcharge Tax
There is a 3.8% Medicare surcharge tax that applies to net investment income for singles with a modified adjusted gross income (MAGI) of over $200,000 and couples with a MAGI over $250,000. The MAGI is adjusted gross income with some deductions added back in, such as tax-free foreign income, IRA contributions, and student loan interest. The surcharge tax is due on the smaller of net investment income (which includes interest, dividends, annuities, gains, passive income, and royalties) or the excess of MAGI over the thresholds.
If your MAGI is near or above the thresholds, there are steps you can take to limit your exposure. First, you will want to review the tax efficiency of your investment holdings. It may be worthwhile to move less efficient investments into tax-deferred accounts and capitalize on tax-loss harvesting. Other moves you can make include investing in municipal bonds, which have tax-free interest, and taking capital losses to offset gains. Installment sales can spread out large gains and minimize your adjusted gross income, and real estate like-kind exchanges can also defer gains and their taxability.
2. Utilize Roth IRA Conversions
Distributions from Roth IRAs are tax-free, so they are a great tool to have in retirement. However, many people cannot contribute directly to a Roth IRA because of income limitations. Instead, you have to convert traditional IRA funds to a Roth account by paying the related income taxes. You can take advantage of low-income years, such as when you have stopped working but are not yet collecting Social Security, to convert your funds to a Roth IRA so you’ll have tax-free income later. It is important to be mindful of tax brackets when you do conversions so you don’t inadvertently push yourself into higher tax rates.
3. Take Advantage of the 0% Rate on Long-Term Capital Gains
If the Medicare surcharge tax is irrelevant to you because your income is lower, then you may be able to take advantage of the 0% long-term capital gains rate. Profits on the sales of assets owned over a year are tax-free if your income is below $47,025 for singles or $94,050 for married couples filing jointly. Once you exceed those thresholds, long-term capital gains are taxed at 15% until your income gets above $518,900 for singles or $583,750 for couples, at which point the tax rate goes up to 20%.
Claiming more deductions or making deductible IRA contributions can help keep your income within the 0% capital gains tax range while also providing their usual tax benefits. However, you will want to be strategic about taking tax-free gains as they can raise your adjusted gross income and affect the taxability of your Social Security benefits. Also, taking those gains may incur state tax liabilities as well.
4. Be Strategic About Inherited IRAs
At the beginning of 2020, the laws surrounding IRAs inherited by non-spouses changed. You no longer have to take out a specific amount of money from the account each year, but you do have to empty the account within 10 years. If you fail to be strategic about withdrawals, you could be forced to empty the entire account at once with 10 years’ worth of growth. The problem with that is that it would greatly increase your taxable income for the year, pushing you into higher tax brackets and subjecting you to added taxes, like the Medicare surcharge tax. If you inherit an IRA from someone other than your spouse, you need to be strategic about your withdrawals and time them so as to limit your tax liability.
5. Donate Effectively
If you are charitably inclined, one of the best ways to save on taxes is through donations. You can get a tax deduction on donations up to 60% of your adjusted gross income. If you have appreciated assets, you can get an even greater tax break. When you donate an appreciated asset that you have owned for over a year, such as stocks, to a charity, you do not have to pay capital gains taxes on the appreciation, but you still get to claim the full value for your deduction. This allows you to avoid the capital gains tax altogether. If your assets have declined in value, it is best to sell them yourself and donate the proceeds so you can claim the loss when filing your taxes.
Another strategy to consider is the use of a charitable lead annuity trust or a donor-advised fund, which allow you to take an up-front write-off that can help offset other income, such as from a Roth IRA conversion or withdrawal from an inherited IRA. We wrote an article about charitable giving which you can read here for additional details.
6. Health Savings Accounts
An HSA is the most valuable account that you can contribute to if you are enrolled in an eligible high deductible health insurance plan. All funds contributed are tax deductible, any growth is tax deferred and any withdrawals are tax free as long as they are to pay for, or get reimbursed for approved medical expenses. You can also use this account as a retirement account. The maximum contribution for 2024 is $8,300 for family and $4,150 for individual. If you are 55 or older, you can contribute an additional $1,000 as a catch-up contribution.
We live in a society that loves to have options, but sometimes the sheer amount of choices in front of us can be overwhelming. That’s exactly what can happen when saving for retirement. You can save through an IRA, 401(k), 403(b), Roth IRA, or a SEP IRA, and within each of these accounts there are even more decisions to make. Why would you want to add yet another account to the mix?
A Health Savings Account (HSA) has unique features and benefits that might help you reach your goals and meet your savings needs. Click here to read a more detailed article we wrote about health savings accounts and their benefits.
We launched our annual client service calendar in January 2024 which outlined the services we perform each “season.” The one service that has grown and that we perform each season for our clients is tax related. It may be determining if Roth conversions make sense, reviewing your tax return, reviewing annual gifting opportunities, performing year-end tax planning opportunities, reviewing required minimum distributions and strategy, reviewing retirement plan and HSA contributions among other services.
Taxes will continue to be a bigger part of retirement planning due to the national debt and the expiration of the Tax Cuts and Jobs Act (TCJA) that will be expiring at the end of 2025. If Biden is re-elected, you can count on your taxes increasing. He has already said he plans to allow the tax cuts to expire, no matter your income. This means tax rates will increase, among other tax increases. This only reinforces the need for year-round tax and financial planning.
Work With a Trusted Professional
There are ways to reduce your tax burden during retirement, but it’s wise to consider all the factors and details so you can implement these strategies effectively. Fortunately, you don’t have to handle this alone. If you’re considering these approaches, teaming up with a seasoned financial advisor can provide the guidance you need for a confident retirement plan.
If you’re in search of a trusted advisor, I’m here to discuss how our team at Live Oak Wealth Management can assist you. Take the first step toward your ideal retirement by reaching out today by calling our office at 770-552-5968 or emailing [email protected]. Or, if you prefer, you can simply click here to schedule an appointment online.
About Matthew
Matthew Gaude is an *investment advisor representative and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. Working first as a commodity broker and then as a Business Development Manager for a national broker-dealer in previous jobs, he has the insight and experience to help clients understand the complexities of the market and implement strategies to minimize risk. To learn more about Matthew, connect with him on LinkedIn or visit www.liveoakwm.com.
About Shawn
Shawn McGuire is a financial advisor and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. He has worked in financial services since 2002 in positions ranging from financial advisor to stock broker and portfolio manager. As a CERTIFIED FINANCIAL PLANNER™ professional, he is trained to help clients with virtually all their financial needs. To learn more about Shawn, connect with him on LinkedIn or visit www.liveoakwm.com.
Securities offered through American Portfolios Financial Services, Inc., member FINRA/SIPC. Investment advisory services offered through *American Portfolio Advisors, Inc., a SEC Registered Investment Advisor. Live Oak Wealth Management, LLC is independently owned and not affiliated with APFS or APA.
Any opinions expressed in this forum are not the opinion or view of American Portfolios Financial Services, Inc. (APFS) or American Portfolios Advisors, Inc. (APA) and have not been reviewed by the firm for completeness or accuracy. These opinions are subject to change at any time without notice. Any comments or postings are provided for informational purposes only and do not constitute an offer or a recommendation to buy or sell securities or other financial instruments. Readers should conduct their own review and exercise judgment prior to investing. Investments are not guaranteed, involve risk, and may result in a loss of principal. Past performance does not guarantee future results. Investments are not suitable for all types of investors. Seek tax advice from a tax professional. Neither APFS nor its Representatives provide tax, legal or accounting advice.