When most investors think about their retirement spending, they are mostly focused on how much they can spend while having their money last throughout their retirement years. They worry that they haven’t saved enough or that inflation will eat into their savings, preventing their nest egg from lasting as long as planned. What many overlook is the order in which assets should be withdrawn.
During most of your saving years, you were told to diversify the tax treatment of your savings. 401(k)s are pre-tax contributions and taxed as ordinary income in retirement. Roth IRAs are after-tax savings with tax-free withdrawals in retirement. IRAs could consist of a mix of pre-tax and after-tax assets, and withdrawals from your brokerage accounts will likely be taxed at long-term capital gains rates. The order in which you withdraw them affects your tax situation, Medicare premiums, and estate plan. Additionally, Social Security benefits are taxed when your income exceeds $25,000 per year for single taxpayers and $32,000 for married couples filing jointly, including income from investments held in retirement accounts like traditional 401(k)s and IRAs. Moreover, the amount retirees pay in Medicare premiums each year is based on the modified adjusted gross income (MAGI) from two years earlier.
Typically, for most investors, we recommend starting with Social Security. This is the money you have paid into the Social Security fund throughout your entire working life, and these are benefits that you are owed. We believe you should take them as soon as possible in most situations. Taking benefits today can also help you keep more money in your portfolio. Next, we recommend withdrawing from taxable brokerage accounts as capital gains generally have favorable long-term rates. Once an investor reaches the age for required minimum distributions, they should fulfill the RMD requirement and supplement any shortage by taking withdrawals from the taxable brokerage account.
The last accounts we recommend withdrawing from are the Roth accounts. This allows the assets in the Roth to grow tax-free for as long as possible. Furthermore, Roth IRAs are the best for your heirs to inherit, as the withdrawals are tax-free. The SECURE Act requires most non-spouse beneficiaries to withdraw the funds within 10 years of the account holder’s death. Since adult children are likely inheriting from their parents, these withdrawals could occur during the beneficiaries’ highest earning years. Roth IRA withdrawals should not affect their tax liability.
However, the time between when an investor retires and when they reach RMD age is a prime opportunity for tax planning. Depending on their tax situation, some investors may benefit from making Roth conversions with funds in their Traditional IRAs or 401(k)s by maximizing their current tax bracket. While they may pay more in taxes now, conversions can reduce future RMDs, and they should have tax-free growth on the conversion, meaning more money later.
It is extremely important to continue to have a financial plan in retirement. Many investors think they need the most help when saving for retirement; however, having experts to consult as you transition from the accumulation phase to the distribution phase is valuable as well.
If you have questions on managing your retirement account withdrawals, the experts at Henssler Financial will be glad to help:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166
Listen to the July 15, 2023 “Henssler Money Talks” episode.
This article is for demonstrative and academic purposes and is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
