What Do Taxes Mean for Your Retirement Income?

You may have questions when considering the many decisions and variables that impact your retirement income — which you may need for several decades. To help you prepare for conversations with your financial advisor and your tax professional, here are answers to six key questions about the taxable aspects of retirement income.

1. After I stop working and my income is potentially lower, how can I take advantage of 0% or low long-term capital gains tax rates?

During the time between when you stop working and when you begin taking required minimum distributions (RMDs) at age 73, you could consider two opportunities with your financial advisor:

• Standard deduction shelter. If you’re able to cover expenses with savings or other cash accounts, consider taking advantage of the standard deduction ($13,850 single; $27,700 married filing jointly in 2023). Depending on your other income, you could use the standard deduction to shelter up to $13,850/$27,700 withdrawn from a taxable account such as a 401(k) or IRA every year without paying federal income tax on that money. Income above the standard deduction amount starts being taxed at the 10% rate.
• 0% long-term capital gains tax rate. While your income is lower before RMDs begin, you may be eligible to realize gains at the 0% long-term capital gains rate. Taxable income limits applicable to the 0% long-term capital gains rate begin at $41,675 for those filing as single and $83,350 for those who are married filing jointly in 2023. The calculation includes the realized gain in determining what qualifies for the reduced rate.

2. How does my taxable income impact the cost of premiums when I apply for Medicare?

Your modified adjusted gross income — known as MAGI, which for these purposes is generally your adjusted gross income plus tax-exempt interest — is a big part of determining your premiums for Medicare. This includes Part B premiums for medical insurance and Part D premiums for prescription drug coverage.

Using 2022 as an example, your Medicare cost is likely based on the tax return filed in the previous year for 2021 income.

• If your MAGI in 2021 was $97,000 or less (individual tax return) or $194,000 or less (joint tax return), you would pay the standard premium for Medicare Parts B and D.
• If your MAGI was higher than those thresholds, you would pay the standard premium and a Medicare surcharge called income-related monthly adjustment amount (IRMAA).

If you are paying the IRMAA surcharge and have a major life-changing event that reduces your income, contact your local Social Security office and complete form SSA-44 to request an IRMAA reduction.

3. Will my Social Security retirement benefits be taxed?

For many people, yes, but there are different taxation levels based on your adjusted gross income and filing status. In addition, certain states tax Social Security income. Your financial advisor and tax professional can provide guidance on the income impacts, both for when you file for benefits and later when a spouse passes away or when RMDs increase your annual income.

4. What is an RMD, and how does the RMD tax penalty work?

A required minimum distribution is the minimum amount you must withdraw annually from your retirement account when you are age 73 and older. It is recalculated each year. If you do not take a distribution or if you withdraw less than the required amount, you may have to pay a penalty equal to 10% to 25% of the amount not taken. Being aware of this ahead of time can help you avoid the penalty.

The simplest approach for many individuals is to take the first RMD by Dec. 31 in the year they turn age 73 and continue RMDs by Dec. 31 every year after that. You can take more than the required amount — and people often do so. While the extra withdrawals don’t count toward RMDs for future years, they do reduce the base amount from which future RMDs are calculated.

Roth IRAs are exempt from RMDs while the owner is alive, but Roth 401(k) and Roth 403(b)s do have RMDs unless they are rolled over to a Roth IRA. Starting in tax year 2024 there will no longer be a RMD requirement on Roth 401(k) and Roth 403(b) plans.

5. What are the tax implications for IRAs?

Traditional and Roth IRAs have their own benefits, but Roth IRAs may have a more long-term tax advantage given the withdrawals are tax free when you meet certain requirements. You fund a Roth IRA with your paycheck or other taxed income and benefit from tax-free growth and tax-free withdrawals in retirement when you have met all the requirements.

If you believe your tax rates could increase in the future, converting a traditional IRA to a Roth IRA could help mitigate the impact of taxes. However, keep in mind that you will owe taxes on the conversion amount, which could also push you into a higher tax bracket. This may also raise your Medicare premium in a future year and could subject some of your Social Security retirement benefits to taxation.

In addition, the conversion is permanent. You cannot convert it back to a traditional IRA, even though this was possible in the past. Your financial advisor can help determine the tax impacts of a conversion and how much to convert, considering those impacts.

6. How can I reduce my taxable income while supporting charitable efforts?

If you’re interested in providing charitable support, donating to a non-profit organization with a qualified charitable distribution (QCD) can help you achieve that goal. A QCD is a nontaxable distribution from an IRA (other than SEP and SIMPLE IRAs) directly to an eligible charity. You must be at least 70.5 years old to take advantage of the QCD strategy.

Below are some potentially significant tax advantages associated with a QCD. Because the charitable contribution rules are complex, see your tax professional if you are considering a QCD.

• Donating using a QCD reduces your income, even if you don’t itemize deductions on your tax return.
• A QCD lowers your adjusted gross income (AGI), which decreases the amount of your Social Security income that could be subject to taxes.
• A QCD could potentially lower future Medicare premiums for individuals subject to the IRMAA surcharge.
• A QCD could lower your Net Investment Income Tax if you’re subject to it.

Plan for tomorrow. See a financial advisor today.

1-888-294-0202 | rbinvestments@rbfcu.org

Article prepared by Ameriprise Financial Services, LLC. Copyright 2021; October 2021

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A Roth IRA is tax free as long as investors leave the money in the account for at least 5 years and are 59 1/2 or older when they take distributions or meet another qualifying event, such as death, disability or purchase of a first home.

These materials are intended to be educational in nature and do not establish a fiduciary relationship. Neither Ameriprise Financial nor its advisors make IRA rollover or transfer recommendations or act as a fiduciary in discussing your IRA rollover or transfer options. Further, the information contained in this document should not be construed as an investment opinion or recommendation by Ameriprise Financial Services, LLC to buy or sell securities or take a specific course of action with respect to your retirement assets.

Be sure you understand the potential benefits and risks of an IRA rollover or transfer before implementing. As with any decision that has tax implications, you should consult with your tax adviser prior to implementing an IRA rollover or transfer.

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