To protect the money used in retirement, create a tax-smart retirement plan.
The bottom line is what is really important in a retirement account. However, many people focus on the profits or losses over a short period of time and end up becoming stressed about their money. Instead of lamenting about the lack of returns, experts agree that a well-crafted strategy on keeping those hard-earned dollars, instead of focusing on returns, is what those planning on a comfortable retirement need to consider. By initially keeping more net income, a drastic jump in financial security and improved lifestyle can be realized.
Hearing much about paying off debt and saving a percentage of their overall income, many people don’t consider the taxes they pay. With children grown, Social Security, and required minimum retirement distributions, many people will find that they don’t have as may deductions and are pushed into a higher tax bracket at retirement. Experts advise not to worry, though. It is possible to retain control over the taxes and savings during retirement than during other seasons of life. To avoid paying extra taxes to the government upon retirement, follow these six strategies.
Changing jobs and rolling over a 401(k) or 403(b) is fairly simple unless you decide to work past age 70 ½ years of age. With many people living longer and living healthier lives, workers deciding to work into their 70s. To avoid taking a tax hit from those required minimum distributions that arrive when you reach age 70 ½, try a reverse rollover from your IRA.
If receiving income from work, many of those who work into their 70’s don’t need the extra income from their IRA. If possible, check with the current employer to see if a move from the current IRA to the employer’s 401(k) or 403(b) is possible. This move depends on how the company has their retirement accounts set up. Not all retirement plans allow for a rollover. However, if a company does allow this rollover, it is a great strategy to avoid or reduce taxes since minimum distributions are not mandatory from a current 401(k) as long as the holder is employed. This rule does not apply if the holder owns 5% or more of the company.
Qualified Charitable Distributions
These types of distributions are greatly underutilized. Instead of taking a tax hit at age 70 ½, those who take the required minimum retirement distribution can have their money sent directly to a qualified charity and thus avoid a tax hit. This works for retirees who are not dependent on the minimum distribution. The $100,000 limit does not qualify for a charitable deduction when filing federal income taxes.
If planning on leaving the money to family members instead of receiving the income, conversion from a traditional IRA or 401(k) to a Roth IRA will help with tax diversification and keep payees in a lower tax bracket. Contributions that are converted to a Roth IRA can be accessed without a penalty and are readily liquid, which is a major concern for those in retirement.
To avoid tax losses, consider Roth conversions as part of any retirement plan. However, conversion of funds from a tax-deferred retirement account to a Roth is considered a taxable event which means that taxes may be owed on a portion or all of the money converted.
Depending on the employer’s plan, if a 401(k) is maxed with contributions, after-tax contributions may still be able to be made. These after-tax contributions can be rolled over to a Roth IRA. This is a fabulous way to create a large reserve of tax-free money later on in retirement. Don’t plan on doing this too early, though. According to IRS regulations, salary deferrals are not eligible for this rollover until age 59 ½ and should be taken into account.
Health Savings Accounts
Health Savings Accounts (HSAs) are a smart way to avoid sizeable taxes. Individuals should put as much money as allowed in their HSAs yearly to avoid paying taxes on money they spend on health care costs. The limit in 2017 for a family is $6,750 and $3,400 for an individual. With more than 1,000 qualified medical expenses covered by HSAs, everything from eye solution to bandages can be covered.
However, if you let the money sit and grow in the HAS, not only would you get the deduction for the initial contribution, but the taxes on this type of money growth is deferred. An added benefit is that withdrawals are tax-free when used for the many different qualified expenses. Astonishingly, if a person keeps a record of their medical expenses for a decade, upon retirement, they may be able to cut themselves a retroactive reimbursement check. Once a retiree turns 65, the HSA works like an IRA and can be used for anything. Taxes still will have to be paid for this type of withdrawal, but the normal 20% penalty is not applied.
Those who make over $118,000 yearly often don’t consider Roth IRAs due to eligibility concerns. But there is a way to put money into a Roth IRA through the back door. With withdrawals generally tax-free from a Roth, high wage earners are able to build a strategy to reduce the tax burden for retirement. Many of these funds are taxed initially during the conversion, but if tax rates rise, then the amount of taxes paid initially helps savers take less of a hit.