The basics of Retirement Withdrawals

Retirement Withdrawal Strategies and Tax Optimization - Summary

 

1. Understanding Retirement Account Types

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A. Tax-Deferred Accounts - 401(k), 403(b), Defined Benefit Plans, Traditional IRA, HSA

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• How they work: Contributions reduce taxable income now; withdrawals after age 59.5 are taxed as ordinary income.

• Key rule: Required Minimum Distributions (RMDs) start at age 73, requiring annual withdrawals of approximately 3-4% of the account’s value.

• Strategy: Plan withdrawals to avoid jumping into higher tax brackets later.

• Tip: Search the public databases to find unclaimed retirement accounts. Start your search HERE.

 

B. Tax-Free Accounts - Roth IRA, Roth 401(k), Roth 403(b)

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• How they work: Contributions are taxed upfront, but withdrawals (including earnings) after age 59.5 are tax-free.

• Flexibility: No RMDs, making these ideal for preserving wealth or leaving inheritances.

 

C. Taxable Accounts - Brokerage, Trusts

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• How they work: No upfront tax breaks, but long-term capital gains (on investments held over one year) are taxed at 0%, 15%, or 20%, depending on income.

• Hidden perk: Married couples can realize up to ~$96,700 (2023) in gains tax-free if their other income is low.

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2. Withdrawal Order Strategies

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A. Default Approach

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• Taxable accounts first: Harvest gains in the 0% bracket (e.g., sell investments with gains up to $96,700 for married couples).

• Tax-deferred accounts next: Use RMDs or gradual withdrawals to stay in lower tax brackets.

• Tax-free accounts last: Let Roth funds grow tax-free for emergencies or heirs.

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B. When to Deviate

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• Large capital gains: Sell investments with smaller gains first to minimize taxes.

• Tax bracket spikes: If a withdrawal would push you into a higher bracket, pull from Roth or taxable accounts instead.

• Estate goals: Leave Roth accounts to heirs (tax-free) and taxable accounts (stepped-up basis) to avoid capital gains.

 

3. Advanced Tactics

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A. Roth Conversions

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• Best for: Early retirees in low tax brackets (e.g., 12%). Convert pre-tax funds to Roth to "fill" your current bracket, reducing future RMDs.

• Example: Convert $30k at 12% now vs. withdrawing it later at 22% due to RMDs.

 

B. Proportional Withdrawals

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• How it works: Take equal percentages from all accounts (e.g., 50% taxable, 30% tax-deferred, 20% Roth).

• Use case: Balances tax exposure while preserving flexibility.

 

4. Estate Planning Considerations

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• Step-up in basis: Heirs inherit taxable accounts at current market value, wiping out capital gains taxes.

• Tax-deferred accounts: Heirs pay income tax on withdrawals, so prioritize leaving Roth IRAs for them.

• Key questions:

  • Do you want to spend all your savings ("die with zero") or leave an inheritance?

  • Should taxes be paid by you (via Roth conversions) or heirs (via inherited IRAs)?

 

5. Annual Checklist for Retirees

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• Estimate taxable income (Social Security, part-time work, RMDs).

• Realize capital gains in the 0% bracket if possible.

• Convert pre-tax funds to Roth to fill your current tax bracket.

• Adjust withdrawals to avoid crossing into higher brackets.

 

By aligning withdrawals with tax rates and long-term goals, retirees can save thousands in taxes and maximize legacy planning. Always consult a fiduciary financial advisor for personalized strategies.

 

6. Step-by-Step Guide to Retirement Investing

 

A. Start With a Clear Picture

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• Assess your current situation: List all retirement accounts, taxable brokerage accounts, and pensions. Calculate total savings and estimate monthly retirement income needs (aim for 70-80% of pre-retirement income).

• Set specific goals: Use the 50/30/20 rule as a baseline and adjust for retirement. Example: If you need $60k/year in retirement, aim for $1.5M saved (using the 4% withdrawal rule).

 

B. Consolidate and Automate

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• Reduce accounts: Roll old 401(k)s into a single IRA or your current employer’s plan.

• Automate contributions: Set up automatic transfers to retirement accounts (e.g., 10-15% of income). For those over 50, add catch-up contributions.

 

C. Choose Simple Investments

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• Build a targeted duration, lower volatility portfolio:

  • Option 1: Target-date fund.

  • Option 2: A simple portfolio of ETFs (U.S. Total Stock Market ETF, International Stock ETF, Bond ETF).

  • Option 3: Use a low fee advisor to construct a simple portfolio that fits your needs.

• Avoid complexity traps: Skip individual stocks or high-fee active funds.

 

D. Tax Optimization

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• Follow the "tax bucket" strategy:

  • Taxable accounts: Sell assets with gains up to $96,700 (married) for 0% capital gains tax.

  • Tax-deferred accounts: Withdraw after age 73 (RMDs start) but stay below 22% tax bracket.

  • Roth accounts: Use last to preserve tax-free growth.

• Consider Roth conversions during low-income years.

 

E. Monitor Without Overcomplicating

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• Annual check-up: Rebalance portfolio if allocations drift >5% from targets. Update beneficiaries after major life events.

• Ignore short-term noise: Review quarterly or semi-annually. Stick to your plan during market drops.

 

F. Prepare for the Unexpected

• Estate basics: Keep a master list of accounts/passwords with a trusted family member. Use transfer-on-death (TOD) designations for taxable accounts.

• Long-term care backup: Keep 2-3 years’ expenses in cash or short-term bonds for emergencies.

 

7. Tax-Efficient Retirement Planning for Diverse Assets

 

A. Life Insurance Planning

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• Term Life Policies: No cash value at expiration; death benefit is tax-free if active at death.

• Universal Life: Use policy loans/withdrawals for tax-free retirement income; consider placing in an irrevocable trust.

• Variable Life: Cash value tied to market performance; tax-free loans preferred.

 

B. Home & Mortgage

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• Primary Residence: Exclude up to $500k (married) in capital gains if lived in 2+ of last 5 years; step-up in basis for heirs.

• Mortgage Strategy: Use taxable accounts for payments to avoid tax bracket creep.

 

C. Investment Vehicles

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• MLPs: Can generate UBIT in retirement accounts; step-up in basis for heirs.

• REITs: Hold in IRAs to defer taxes; step-up basis in taxable accounts.

• Income Properties: Depreciation deductions; 1031 exchanges for deferral; step-up basis for heirs.

 

D. Alternative Assets

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• Collectibles: 28% capital gains tax; donate appreciated art for deductions.

• Crypto & NFTs: Treated as property; use trusts for estate planning.

• Gold: 28% collectibles rate for physical gold; use self-directed IRA for tax deferral.

 

E. Trusts & Charitable Giving

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• Revocable Trusts: Avoid probate; no estate tax benefits.

• Irrevocable Trusts: Remove assets from taxable estate; asset protection.

• Charitable Strategies: QCDs, CRTs, and DAFs for tax-efficient giving.

 

8. Common Retirement Planning Mistakes

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• Relying on one income source

• Underestimating healthcare costs

• Delaying or skipping contributions

• Investing too conservatively or aggressively

• Overcomplicating investments

• Ignoring fees

• Not having a withdrawal plan

• Overlooking taxes

• Not updating your plan

• Letting emotions drive decisions

 

Summary: Keep things simple: diversify, start early, watch fees, plan withdrawals, and update your plan as life changes.

 

9. Core Estate Documents for Retirees

 

A. Will & Trust

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• Will: Specifies asset distribution, names beneficiaries, and appoints an executor.

• Trust: Offers control, bypasses probate, and provides ongoing management for beneficiaries.

 

B. Durable Power of Attorney (DPOA)

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• Appoints someone to handle financial/legal matters if incapacitated; prevents need for court-appointed guardianship.

 

C. Healthcare Power of Attorney & Living Will

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• HCPOA: Designates someone to make healthcare decisions.

• Living Will: Details preferences for life-sustaining treatments.

 

D. HIPAA Release

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• Authorizes individuals to access medical records and communicate with doctors.

 

E. Medical Directives

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• Includes DNR orders and organ donation wishes.

 

Final Thoughts: These documents protect your autonomy, assets, and loved ones. Review and update them regularly with a qualified attorney.

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