Retirement and Taxes: How to Lower Your Tax Burden

Introduction

Planning for retirement isn’t just about saving money—it’s also about minimizing your tax burden so you can keep more of your hard-earned wealth. Understanding how retirement income is taxed, which accounts offer tax advantages, and strategies to reduce your tax liability can help you maximize your savings.

This guide covers how retirement income is taxed, key deductions and credits for retirees, and strategies to legally lower your tax bill.

How Retirement Income Is Taxed

Taxable Retirement Income Sources

Most retirement income is subject to federal income tax, though some sources may be tax-free.

• Social Security Benefits – Up to 85% of Social Security may be taxable (IRC §86).
• 401(k) & Traditional IRA Withdrawals – Fully taxable as ordinary income.
• Pensions – Generally taxable, but some states offer exemptions.
• Investment Income – Capital gains tax applies to stocks, bonds, and real estate sales.
• Required Minimum Distributions (RMDs) – Taxable withdrawals from retirement accounts after age 73.

Tax-Free Retirement Income

• Roth IRA Withdrawals – Completely tax-free after age 59½ if the account is at least five years old.
• Municipal Bonds – Interest earned is federally tax-free and sometimes state-tax-free.
• HSA Withdrawals for Medical Expenses – Tax-free if used for qualified medical costs.

Action Step: Consider shifting assets to tax-free income sources for retirement.

How to Lower Taxes on Retirement Income

2.1 Max Out Tax-Advantaged Retirement Contributions

• Contribute to 401(k), 403(b), or IRA accounts to lower taxable income.
• 2025 Contribution Limits:
  • 401(k): $24,000 ($30,500 if 50+).
  • IRA: $7,500 ($8,500 if 50+).

Action Step: Contribute the maximum to reduce taxable income now and defer taxes until retirement.

2.2 Convert a Traditional IRA to a Roth IRA

• Roth IRA withdrawals are tax-free in retirement.
• A Roth conversion requires paying taxes upfront but avoids future RMDs.

Action Step: Convert small portions of your Traditional IRA to a Roth IRA during lower-income years to reduce taxes over time.

2.3 Delay Social Security to Reduce Taxes

• Social Security benefits are taxed if your combined income exceeds $25,000 (single) or $32,000 (married).
• Delaying Social Security until age 70 increases your benefits and may reduce taxable income.

Action Step: If possible, delay Social Security and withdraw from tax-deferred accounts first.

2.4 Take Qualified Charitable Distributions (QCDs)

• If you’re age 70½ or older, donate up to $105,000 tax-free from an IRA directly to a charity.
• QCDs satisfy Required Minimum Distributions (RMDs) and lower taxable income.

Action Step: Use Form 1099-R to report charitable distributions.

2.5 Move to a Tax-Friendly State

Some states do not tax retirement income, including:

• Florida, Texas, Nevada, Washington, Wyoming, South Dakota, and Alaska.

Action Step: Consider relocating to a state with no income tax or retirement tax exemptions.

Tax Deductions & Credits for Retirees

3.1 Standard Deduction for Seniors

• If 65 or older, you receive an extra deduction:
  • $1,950 additional deduction for Single filers.
  • $1,550 additional deduction per spouse for Married Filing Jointly.

3.2 Medical Expense Deduction (IRC §213)

• Deduct medical expenses exceeding 7.5% of AGI.
• Qualifying expenses include Medicare premiums, prescriptions, and long-term care.

Action Step: Use Schedule A (Form 1040) to itemize medical deductions.

3.3 Retirement Savings Contributions Credit (Saver’s Credit)

• Tax credit for low-to-moderate-income retirees contributing to a 401(k) or IRA.
• Credit value: 10% to 50% of contributions (max $2,000 credit per taxpayer).

Action Step: Use Form 8880 to claim the Saver’s Credit.

4. Required Minimum Distributions (RMDs) & Tax Planning

• RMDs begin at age 73 for traditional retirement accounts.
• Failure to withdraw RMDs results in a 25% IRS penalty.

Ways to Reduce RMD Taxes:

• Convert portions of Traditional IRAs to Roth IRAs before RMDs start.
• Use Qualified Charitable Distributions (QCDs) to donate RMDs tax-free.

Action Step: Calculate and withdraw RMDs using Form 5329 to avoid penalties.

Frequently Asked Questions (FAQs)

1. How can I pay less tax on my retirement withdrawals?

Withdraw from Roth IRAs first, delay Social Security, and use Qualified Charitable Distributions.

2. Are Social Security benefits always taxed?

No. If combined income is below $25,000 (single) or $32,000 (married), Social Security is not taxable.

3. Do retirees still pay Medicare taxes?

Yes. Medicare premiums are deducted from Social Security benefits, but HSA withdrawals can cover medical expenses tax-free.

4. Can I avoid Required Minimum Distributions (RMDs)?

Yes, by converting Traditional IRAs to Roth IRAs before RMD age.

5. Which states do not tax retirement income?

Florida, Texas, Nevada, South Dakota, Washington, Wyoming, and Alaska.

Conclusion

Lowering taxes in retirement requires smart withdrawal strategies, tax-free income sources, and taking advantage of deductions and credits. Planning ahead can help reduce your tax burden and maximize retirement savings.

For expert retirement tax strategies, schedule a meeting with our CPA Anshul Goyal by clicking at https://calendly.com/anshulcpa/ now.

About Our CPA

Anshul Goyal, CPA, EA, FCA, is a licensed Certified Public Accountant in the United States and an Enrolled Agent admitted to practice before the IRS. He specializes in retirement tax planning, Social Security tax strategies, and tax-efficient withdrawal planning.

Disclaimer

This article is for informational purposes only and should not be considered legal or tax advice. Every taxpayer’s situation is different. Consult a qualified CPA or tax professional before making tax decisions.