How To Lower Your Tax Rate In Retirement

Hello, what's up everyone? We were here to learn about the evolution of money and today's video. I'm going to talk about tax st

rate

gies for retirees. Now this is a topic that we have made several videos on. Today's video I will take from a slightly different perspective. angle I'm going to talk about a couple of important factors that I think we should think about right now as we start to put together some of our

retirement

tax plans. Remember that the tax plan is one of those seven core elements that we talk about all the time here on the blog, perhaps one of the most important elements, so there are a couple of things I want you to think about as you start to prepare this tax plan number one, which is kind of the big elephant in the room and that's the money that you have in traditional

retirement

accounts and that's money that when you start withdrawing it in retirement you're going to have to pay taxes at

your

income tax

rate

. ordinary income.

We're also going to talk about tax cuts and the Jobs Act. that went into effect in 2018, those tax cuts will expire in 2025, so I think we have some opportunities here to take advantage of that, we're also going to talk about a couple of other things: the tax on

your

Social Security that we're going to talk about. how to coordinate your Social Security benefits into this tax strategy and why perhaps delaying those Social Security benefits could give you some opportunity to take advantage of these tax cuts. Let's talk about what happens if you or your spouse dies, what happens to your tax rates?

Then we're also going to talk about the possibility of your income taxes causing your Medicare premiums to go up, so this is something I've talked about a lot again on the blog here, but there are a lot of moving parts when it comes to of our taxes in retirement, so hopefully we'll give you some good ideas here and let's get started right away, so now let's talk about some of the tools that we'll use to help you create this. tax plan there are a number of things that we actually have some control over, for example where you save the money if you're still working, do you put it in a Roth deposit or a traditional deposit or a taxable deposit that will have a impact on what those taxes are today and what those taxes will be in the future when you start withdrawing that money, we can control as you take those distributions, what account we are going to take them from, we can also control when you decide to collect your Insurance benefits Social, so these are some of the tools that we are going to use.

We can do Roth conversions. That's another strategy that could fit very well into your financial plan to create this tax strategy for your retirement and remember. The sooner you start creating this tax plan, the more options you will have as you get closer and closer to your retirement date or the age at which you will collect Social Security or the minimum required distribution age at seventy and a half that simply reduces the number of options we have, so the sooner, the better these opportunities will open up for us to create this tax plan. Okay, so let's start by giving you a quick refresher here on the three tax groups and this. it's something that I think I have a whole video dedicated to this, but your three taxable groups are what we call your tax group now and it's going to be primarily your non-retirement accounts and you know you have money in the text group now if you get that 1099 form at tax time that will report your dividends your interest your capital gains that are in the tax bucket you may also have money you probably have money in the traditional bucket and those will be those traditional IRA or 401k plans , that's money that was probably deducted from your tax return when that money went into those accounts, but it will be money that you'll have to pay taxes on later when you start withdrawing that money in retirement and you eventually have your Roth. bucket and that's money that was taxed before it went into the retirement account and as that money comes out during retirement, you don't have to pay any taxes on that money, so we want to create a balance from these three different accounts that's going to not only will it give you a potentially

lower

tax rate in retirement, but it will also balance that against whatever tax rate you may have today, so there are a couple of things to think about quickly here with the text box now, we want get some control over this because I think That's one of the areas that may be a little lacking here because if you have mutual funds as an example here, they're just going to report those capital gains, interest payments and dividends and you're at the mercy of Regardless of Whatever that fund did, there are a couple of strategies we can do to maybe regain a little more control over that.

One of those things is to look for investments that are geared more toward a long-term capital gains approach, you know? So basically you're going to hold them more like a buy and hold and not have something that's a little bit more actively managed and you could do that through, for example, an ETF that's a stock exchange listing. There are several very good ones that do this and they tend to be very tax efficient. One thing we want to avoid here with this is we want to avoid interest payments because interest payments on a taxable account are taxed based on your ordinary income. tax rate that will be your highest marginal tax rate, so we want to try to minimize that as much as possible with the traditional bucket.

One of the important things we want to be very aware of is what the growth of that account will be. Between now and the time we'll have to start taking those required minimum distributions at seventy and a half and of course the Roth bucket, we'll look at it and be able to potentially transfer money from one of these others. two buckets in that Roth bucket which will be a completely tax free bucket and is not subject to required minimum distributions so we will never be forced to take that money out, we can do that as we need to, maybe supplement some of those other sources of retirement income, okay, so now let's start mapping out some of these things.

What we want to do is look at a couple of very key dates in your retirement schedule, so one of those key dates We've already put here the expiration of the tax cuts and the Jobs Act, which will expire at the end of 2025, so which in 2026 we return to the tax rates we had in 2017. You may still be working right now. So we're going to go here and we're going to say this is where you are today and one of the very important elements of any tax plan is that we want to know and understand what your current tax rate is as a percentage of your income or what that marginal tax bracket is and what that tax bracket is going to be like in the future and there's a couple of things that we need to understand, of course, understand what that tax bracket is today relatively The easy things are: you know you probably have some income, you're going to have some deductions and you're going to pay some taxes, so if you've already done your taxes for this year, you should be able to look right at that text form and figure out what that is. the marginal tax rate is, but in retirement we have many more parts, so one of those moving parts will be social security and we have some options: you can collect Social Security starting at age 62, with a reduced amount, you can collect Social Security. your full retirement age, which could be 66 or 67 or somewhere in between, probably for most people watching this video we're going to assume it's 67 and you can delay paying Social Security entirely. until age 70 and you can get what are called delayed retirement credits and we have some videos where I go into a lot more detail about that, so of course your Social Security is going to be one aspect of what we're going to do.

A couple of things here: We'll assume you're married and we'll assume you have $5,000 a month in Social Security benefits at your full retirement age, so one of the things that's important to understand is your Social Security. The security benefit will be taxable and there is a formula for that. What they do is take half of your Social Security benefit and they will add any other source of income. It could be a pension if you have a pension benefit and if you have interest or dividends from stocks, if you took money out of an IRA, Hiya Ray withdrawals will be included here, basically almost all forms of income will be part of this including tax-free municipal bond proceeds.

That's something that you typically don't have to pay income for, but it does go into that calculation to determine if your Social Security benefit will be taxable, so I think it's very important that we understand that there may be some people who could have a situation where your Social Security benefits are not taxable, but I think that will be very unlikely and the reason for that is because of this issue I wrote here in 1983, the last time there was major social security. In the reform they decided that Social Security benefits would for the first time be subject to taxes and if your income exceeded $32,000, half of your Social Security benefits would be taxed at your marginal tax rate, so in 1993 they stepped up that figure and they said if your income is over 44,000 again, this is for a joint couple filing a joint tax return, if it's over forty-four thousand dollars, that's where 85 percent of your Social Security benefit could be taxed. and those numbers are exactly the same as they were in 1983 and 1993, in other words, they're not indexed to inflation, so if we take a situation here where some of these retirement benefits are $5,000 and that's going to be what will be reported on your Social Security Statement, we must support that.

We figure that Social Security has some cost of living adjustments and that $5,000 could be considerably more than that, but even if we said it was $5,000 a month multiplied by 12 months, that's $60,000 a year, so to make that calculation, I would basically say that you know that $30,000 is going to be part of the calculation to see if that's taxable and then you're going to add anything else and right there you're going to be almost at that $32,000 level, so for most people we're just going to go ahead and assume that You will probably have to tax at least a portion of your Social Security benefit, probably 85% of your Social Security benefit will be part of your tax calculation.

Okay, so the second big thing. What we want to make sure we're considering is what those future IRA withdrawals will affect our tax situation and, in particular, what our required minimum distribution is because those are the required withdrawals that we must take after we reach. 70 and a half years, so coming here to our timeline, here we're going to extend this a little bit further, we say it's 70 and a half and that's where minimum distributions are required, now we can do that. This uses some very simple rules of thumb, but what we want to do is project what we think the IRA balance will be is a really great rule of thumb that we use here all the time to do a quick calculation on growth.

Interest rates are something called the rule of 72 and what it essentially says is that if you divide the interest rate you expect to earn by the number 72, it will tell you approximately how many years it will take for something to double. A lot of times when we talk about these calculations just to use something very soon, people if we said we were going to get a 7% average annual rate of return on our portfolio and we divided it by the number 72, it tells us we're going to double our money every 10 years, so for example, if you had, let's say, a million dollars in your tax-deferred retirement accounts in that traditional IRA and you had 10 years, then we would simply say that within 10 years we were going to have 2 million dollars and of course I'm oversimplifying, we don't know what the actual rates of return are.

Your performance could be higher, it could be

lower

than that 7 percent and if it's still working, then you'll also need to take the calculations into consideration, but what I want to do here is just illustrate here without marking, you know, because a lot of times the People continue to put off making those withdrawals from their retirement accounts until they absolutely have to and maybe take money from other sources maybe even take money from a Roth deposit just because they don't have to pay taxes on it and they continue to leave For this tax deferred deposit to accumulate there, according to the RMD tables here in the first year, the divisor would be 27.4 and what that essentially means is that if you go to those RMD tables, if you divide 2 million dollars , which is the projected value in this example of that IRA account and divided by 27.4, tells us that we will have to withdraw around seventy-two thousand nine hundred and ninety-four dollars.

I think I understood that number correctly, it's pretty close to just underseventy-three thousand dollars from your retirement account, so we're going to go ahead and add up all of these different sources of income now we can start looking at that tax table and maybe get a pretty good idea of ​​what the future tax rate is going to be, but for Of course we have some pretty big gaps there, so we have the income that we are earning right now at a tax rate that you have today and then you have your Social Security and we are going to try in this example to delay the Social Security benefit as long as possible and There are a lot of things that go into that and we're not necessarily saying it's the best strategy, but for this example here to hopefully reduce some of that taxable income a little bit, we're going to try to take advantage of this middle area, which is what sometimes we call the low tax years, before you maybe start making those big withdrawals from retirement accounts that are mandatory in our time md before social security kicks in, is there an opportunity here to maybe be in a lowest tax bracket?

Okay, so now let's put some hypothetical numbers to this situation here, let's say you're still working and let's say you're in a marginal twenty-four percent federal tax bracket, so, based on the tax cuts in the Jobs Act , that equates to approximately two hundred and thirty-seven thousand dollars of income up to a maximum of three hundred and fifteen thousand dollars of taxable income. will keep you in that twenty-four percent tax bracket, so one of the things that we really want to consider here as we put together these retirement plans is that we want to understand, of course, what your retirement gap is and how much money you have.

We'll probably have to draw from those retirement accounts and what that taxable income is and what the future tax rate will be, but right now, as I said before, I think we have a real opportunity here with these tax cuts and the Jobs Act. so let's move beyond 2025 to 2026, as these tax cuts are scheduled to go away, that same income level of two hundred thirty-seven thousand dollars to three hundred fifteen thousand will no longer be taxed in a twenty-four percent tax bracket. hundred. We're going to be taxed at a thirty-three percent tax bracket and I think that's a big difference, obviously, but that really changes a lot of our common conceptions about what we should do with our retirement accounts and where we should save them. money, so one of the main differentiators between saving money and a Roth account versus a traditional account is whether my tax bracket in the future will be higher or lower than it is today and whether our tax bracket will be higher in the future.

As we go As demonstrated in this hypothetical example, then it makes sense that we would pay taxes today at the twenty-four percent tax rate and then potentially get tax-free income if we put it into a Roth when our tax bracket could be thirty-three. percent. or higher and I like it tight, as I talked about in some of the other videos, we can make a very good case for why we think tax rates are more likely to go down in the future than they are to go down despite even the tax cuts . In fact, if we go back a couple of decades ago, believe it or not, there was something we called the success tax, but it was actually called the excise tax and it existed for about ten years.

I think it was repealed in 1997 with the Taxpayer Relief Act, but what they had essentially said was that if you took too large a distribution from one of your retirement accounts, there was an additional 15% tax on the withdrawal on top of what their ordinary taxes would have had. I've been there, so in the past there were very high tax rates and, honestly, if you look at the budget deficit, look at how many people are going on Social Security and Medicare and what's happening basically, we know the chances that tax rates increase. I think it's a very real possibility, so the first tool we talk about is where to save money for retirement.

Now we want to talk about how, once you've retired, where do you start withdrawing money from and I think this is very It's important again to understand what that tax rate is in retirement, but remember we have these three groups here, we have their tax now, the non-retirement group, we have the traditional group and we have the Roth group, so we are in an ideal situation. For most people, we probably want that Roth bucket to be the last money they spend because, again, any money that grows in this traditional bucket will only give me more taxes that they will have to pay in the future each year.

You're going to get that tax bill that's 1099 returns and it's going to be money that you're going to have to pay from the text now in a bucket, but there's one thing I want to mention here about this taxable bucket is that if you have long-term capital gains, in You can actually withdraw up to seventy-seven thousand dollars seventy-seven thousand two hundred one dollars and tax it at a zero percent tax rate, okay, that's if your total income isn't just capital gains, depending on how much money you have in that tax bracket could be a very good way to fund some of those early retirement years, especially if you retire perhaps before age fifty-nine and a half, when you can start taking normal distributions from your retirement accounts, but the other thing I really want to talk about here as it relates to retirement is what I call low tax years, so there will be a period of time for most people from that retirement date Maybe they retire early.

I know you're 58 even sixty years old remember you're not even eligible to start receiving Social Security benefits until you're 62, but I'm not going to go into details, but if you receive Social Security benefits at age 62, your level will be significantly higher. reduced amount and you will lose many benefits for life, so for most people, if they are healthy, we would like to see people delay that Social Security benefit until at least their full retirement age, if not until age 70 . where you get those maximum delayed retirement credits, but the other thing that can delay Social Security is that it can keep you in a lower tax bracket longer, so if you look especially if you're going to retire while we're still under these tax law Cuts and Jobs, you can have, for example, up to one hundred and sixty-five thousand dollars and still be in a twenty-two percent tax bracket;

That same amount of income once those tax rates expire will go up to twenty-eight percent, so we want to find the sweet spot here on how much money you can take out of retirement accounts and not necessarily just focus on what those tax rates are today. , but we want to create a balance and perhaps maintain that uniform tax rate. as possible over time, but at the lowest possible amount, does it make sense to save a bunch of taxes here today only to have a huge tax bill later and doesn't it make sense that some people might advocate for trying to achieve that?

This number is reduced as much as possible, but it means we are paying all those taxes up front. There has to be some kind of middle ground here, so two last tools that I want to talk about here when creating the strategy, so we just talked about where to take money, we talked about Social Security and maybe delaying it as another potential strategy to minimize those taxes over your lifetime, next time I want to talk about our Roth conversion, so if you're in a group. where you still have some room before you move on to the next pool and it makes sense to do so, so what you could do is transfer some money from that traditional pool to the Roth pool and that will do two things, number one, hopefully, This will mean that you are paying less taxes at the lower tax rates today compared to what that potential tax rate could be in the future, but you are also eliminating required minimum distributions because remember that RM DSs only apply to traditional accounts, not to Roth accounts and then the last tool I want to mention here in that same vein is to think about not only what your tax rate is today compared to your tax rate in the future, but also as you go through life thinking about maybe who you will probably inherit this money if your children will inherit it or your grandchildren and what their tax brackets are compared to your tax bracket, so if your children are in a lower tax bracket than you, then it might be Do you know that you have more Does it make sense to keep that money in a traditional account?

You know, because they'll take that money out in retiree distributions at a lower tax rate than you pay if they're in a higher tax bracket. So it might make sense to try to move as much money into a Roth, and of course you can also make some donations while you're still alive so you can donate money to any number of people you want. I think the limit here for 2019 is maybe around fourteen or fifteen thousand dollars a year. I need to verify that we're going to show it on the screen and you can give it away to as many people as you want and that's one way to reduce that. wealth and maybe you know that you see some value for your children or grandchildren in being able to enjoy that money while you are alive, so anyway I hope it all makes sense, we are going to include a lot of details here, but we will create a tax strategy for retirements . probably one of the most important things you can do.

I think there are a lot of opportunities here, especially like we've been talking about with the tax cuts in the Jobs Act that will only be in place for a while and I hope you've had a great experience anyway. Value of this, don't forget to hit the like button or subscribe if you think there is some value here. Hit the Share button too if there are others in your online social networks who you think could benefit from the information. here, hit the share button, we would love to spread the word to as many people as possible and with that I will see you in one of my next videos, have a great day.