How much you get taxed in retirement is a top financial planning issue, but many people are surprised that how you get taxed is different. Taxes affect you differently and there are new taxes that only get applied once you retire. We cover the details in this episode.
Speaker 1 (00:07):
Welcome back, my friends. It's 30 Minute Money, of course, 30 minute Money. My name is Scott Fitzgerald from Rock Vox Recording and Production. And in-studio today is my friend Steve Wershing from Focused Wealth Advisors, giving us the smart money ideas in bite size pieces. Welcome, Steve.
Speaker 2 (00:23):
Thank you. The low down, we're gonna give them the low down,
Speaker 1 (00:26):
The low down on the down low. Exactly. Well, of course, you know, we talk about retirement, we do a lot here. Yep. And, uh, this is right up that alley. How you get taxed in retirement is quite different.
Speaker 2 (00:37):
Talk a lot about retirement. We talk a lot about taxes, and one of the reasons that that's important is because how, how you get taxed is different in retirement. A lot of people just think, well, I'm just gonna, you know, carry on and I'm gonna go from my career into retirement and I know how taxes work, and so I have some idea what to expect. But actually it's, it's different. There are different taxes that you have to pay and your tax and it's, and taxes affect you in a different way in retirement. I thought it would be worthwhile talking about that a little bit because it's, I think it's important to understand as people firm up their retirement plans, so during your career, you, you are taxed on your income. You're taxed on how much you make. And we sort of get used to that, right?
Speaker 2 (01:19):
We, we, early in our careers, you know, we, we, we think we're gonna make this much per year, and then we go to work and we, we get our first paycheck and we look at it and we're like, wow, that's a lot lower than I thought it was gonna be. And it's because they take the taxes out before we get to see it. So we get a net pay, and over the course of time we learn how to live within that net pay so it works out okay because we never get the money so we can never spend the money and it's just handled that way. But when you get into retirement, it's a little bit different. Um, in retirement, if you, if you've got a certain amount of spending a certain household budget in your mind, then you just figure that that's what you're gonna pull out. And just like your net pay, that's what you're gonna live on. But the, the difference is when you, while you're working your text on how much you make in retirement, you're taxed on where it comes from. Hmm. And that can have, if you don't understand that and you don't know how that, what kind of dynamic that plays on your nest egg, then you can end up depleting that nest egg a whole lot faster.
Speaker 1 (02:19):
So what you're saying here is that we're taxed on our assets and Right. Like when I look at my tax return, it's income. That's, that's what I see. Yeah. So what an, what is an asset?
Speaker 2 (02:31):
Well, it's the savings house that you, the savings put together. Right? Okay. So, um, you know, when you look at your, when you look at your tax return, yeah. You're just looking at, it's all about the income, right? Mm-hmm. , but, but here's how that works in retirement, when you, uh, you're pulling money out of a nest egg to supplement whatever other income you have, you may have social security or a pension or those kinds of things. And the rest of it comes from the money that you have saved over the course of your career. And so you look at that now, what shows up on the tax return is, but everything you pull out of those tax deferred accounts, those retirement plans is taxed as income. And so what you end up having to do is if you say, well, I I'm gonna need a hundred thousand dollars out of this account to meet my budget for this year, and you go to pull a hundred thousand dollars out, you're not done because that a hundred thousand that you pulled out is taxable. And so you've gotta pull some more out for the taxes and you're still not done because now that money that you pulled out for the taxes, that's taxable too. And so you've gotta pull even more out to do that. And so, um, in retirement, if we look at spending patterns, um, you know, you think like you can get whatever you need, you can withdraw whatever you need there, but there's that other element that people don't think about.
Speaker 1 (03:47):
So what I'm hearing is a little bit scary actually, from my point of view. So, uh, it almost sounds like a never ending infomercial, but wait, there's more, but wait, there's more. Exactly.
Speaker 2 (03:58):
Speaker 1 (03:58):
And that's what I'm, that's what I'm fearing. It's like if we're not limited to how much we can get, we we can get us get into trouble if we keep taking money out and then Exactly.
Speaker 2 (04:08):
Exactly. And that's why taxes are different in retirement because, you know, when we're working, we know what's in the paycheck. But when you're retired and you can get, get access to that money, then you, you know, a lot of people feel like, well, I'll just go in and get it. But like you said, you can get yourself in trouble like that. So here's how you figure out what kind of an impact it could have. Let's say that, let's say that you, you need to pull out a hundred thousand dollars to, to meet your budget and that you're in the 30, you, you pay 30% taxes total. So let's say you pay 22% federal and you pay another 8% for New York state tax. So you got a 30% tax load. So you pull out a hundred thousand and then you're gonna need 30,000 to pay the tax.
Speaker 2 (04:46):
But as I said, when you pull that 30,000 out, that's taxable tax. That's tax too. So here's the formula. What you do is you take, um, you take the tax rate or you subtract, uh, the tax rate from one, and then you divide your withdrawal by that. So if your total tax load is 30%, one minus 0.3 is 0.7. And so if you're gonna take a hundred thousand dollars out, a hundred thousand divided by 0.7 is $142,857. So if you ha, if you need a hundred thousand dollars out of your IRA to live on, you're actually gonna have to pull out a hundred forty two, eight hundred fifty $7.
Speaker 1 (05:29):
Wow. I'm, I'm guessing a lot of people are not clear on this.
Speaker 2 (05:36):
Speaker 1 (05:37):
I can see that. This would be, this could, I know I would get, if I, if we didn't have this conversation right now, I'm fast forwarding, I would be running into this problem guaranteed.
Speaker 2 (05:46):
Yeah. So what, what ends up happening is you end up pulling up out almost 50% more than you thought. So yeah. What kind of an effect do you think that'll have on how long your nest egg is? Oh,
Speaker 1 (06:00):
You're gonna blow through your
Speaker 2 (06:00):
Cash. Exactly. Exactly. So, you know, there are two really important concepts that we should talk about here. The first is when you calculate your withdrawals, when you calculate how much you're gonna withdrawing from your retirement account, you need to make sure that you put the full tax load in there, that it includes that. Because otherwise you're gonna be pulling out way more than you projected. And, and that means you could run outta money a lot faster. So that's really important. Mm-hmm. , the other thing that's important to, to, to think about is the, the role of active tax management. And that's, that's why, that's why I, I get so hyperactive about this because if that's the effect that it's gonna have when you pull money out of an ira, then it really emphasizes, it really sort of highlights the importance of actively managing taxes and, and managing them, managing them off into the future.
Speaker 2 (06:48):
The whole idea of tax management is to set things up between, you know, late in your career and when you retire so that you, um, you have more than one lever to pull if you need income in retirement. So if all, if everything you've got is in your IRA or in your retirement plans and every time you need money, you can pull that lever. But when you pull that lever, it causes the full load of taxation. You really, you know, that, that puts you in a risky situation. So what we wanna do with active tax management is to e you know, to have a better balance of money between those three tax buckets, taxable accounts, tax deferred accounts, and tax free accounts so that you have more than one lever to pull. And if you're pulling a lever and you find yourself closing it on the top of a tax bracket, you can stop pulling that lever and pull a different lever that does not cause taxes when you pull that stuff out.
Speaker 2 (07:41):
So, so that, that's why I think active tax management is so important. Now, on top of that, in other episodes we've talked about taxation of other things like taxation of social security. And so we need to think about that too. You know, that not only would, would you be causing taxes on the money that you're pulling out, but you could potentially be causing taxes on other things as well. And the two big ones are social security, the social security bene benefit that you get, and something that we call Irma, uh, I R M A A, which is the income related monthly adjustment amount, which is sort of an extra tax on your Medicare Part B.
Speaker 1 (08:18):
Now, I thought that social security was tax free. Am I incorrect in that assumption?
Speaker 2 (08:23):
Well, that's from my standpoint philosophically probably should be because, you know, we spent our whole careers exactly paying those taxes for social security and now we gotta pay tax on it Again, unfortunately, that's how the system works. And so if you make above certain limits, then yes, even though you've paid in your whole life, you through a tax, you may, you may get taxed again. So if you, it's another reason why we want to actively manage taxes. If we can keep your taxable income low, then you can lower the tax burden on your social security and you can avoid that Medicare tax if, if you, if you play your cards right. And that's a whole different calculation called provisional income. But, um, but yeah, so that's why, that's why active tax management is so important.
Speaker 1 (09:08):
And I would remind our listeners and viewers that we do have an episode that is exactly titled that Active Tax Management. Yep. Go and refer to that because it's a cornucopia, if you will, of information that's related to the subject. Exactly. So what's your 30 minute action item?
Speaker 2 (09:25):
So the action item here is when you, uh, project your retirement withdrawals, make sure that you add the tax into it so that you know what real drain you're putting on your nest egg.
Speaker 3 (09:38):
Your retirement is at risk, not from the stock market, not from inflation. Taxes are putting your retirement at risk. I'm certified financial planner, Steve Woring and I specialize in helping people create low tax retirements. Unmanaged taxes can take 30, 40, even 50% of your retirement income. Learn how to defend yourself against excess taxation. Our complimentary webinar will cover all the principles you need to know to protect your money for you and your family, and keep it away from the government. This free webinar will cover how taxes are different in retirement, the taxes you pay in retirement that you don't have to pay during your working life, how to move tax savings into a tax-free environment. The Widows Tax, the Secure Act, the Secure Act 2.0 and what they mean to you. The webinar is free, but you have to register to save your spot. So go to focused wealth advisors.com/webinars and find out more and sign up right there. Even if you're not planning to retire for the next five or 10 years, this information will be critical for you. The longer you have to put the strategies into effect, the more you can accomplish. That's focused wealth advisors.com/webinars to find out more and to sign up today.
Speaker 1 (11:04):
And that's it for this episode of 30 Minute Money. You can find it at 30minute.money. Steve is at Focused Wealth Advisors and I'm at rocvox.com. Please like and share and review and rate our podcast and we'll catch you next time on 30 Minute Money.