3 fiscal errors that can ruin your pension
No matter how much you try to avoid it, Uncle Sam will always take part of your paychecks.
The same is true for retirement, although retirement taxes can potentially have greater consequences than when you work – because you are likely to live off of a fixed income in retirement, spending more than you expected can throw away the entire plan. And if you are not prepared for them, taxes can take a serious chunk of your retirement budget.
To ensure that your retirement savings go as far as possible in your golden years, there are a few tax mistakes you should do best to avoid.
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1. Not accounting for taxes at all
It's easy to forget taxes when saving for retirement. When you get caught up in deciding how much you expect to spend in retirement and how much you should save, taxes may not be in that equation.
The only way to completely avoid paying tax on retirement account withdrawals is to save all your savings into a Roth IRA, where your contributions are taxed in advance, but you can withdraw your money tax-free. If you have money in another type of retirement account – such as a 401 (k), 403 (b) or traditional IRA – you can expect to pay income tax for the money you deduct from your pension fund. [19659002] There are some ways to trim your tax bill so that you are not completely taken care of. An alternative is to invest primarily in a Roth IRA. You will still pay taxes when you make initial contributions, but it may be easier to plan retirement when you know that the money in your account is the amount you will be able to spend.
Another way to prepare for retirement tax is to start thinking about your savings goals when it comes to pre-tax dollars. For example, say you estimate that you will need $ 50,000 each year to pay all your retirement bills, and you base your retirement plan around that number. Even if you save according to your plan and you can afford to withdraw $ 50,000 a year, you will actually end up with less than that when the tax is collected. Instead, you might want to increase your annual spending estimate to, say, $ 65,000, so you have about $ 50,000 each year to spend after taxes. Of course, the actual figures will vary based on the tax bracket and the state tax rate, but calculating taxes in your retirement plan can help avoid surprises.
2. Forget income tax on Social Security benefits
Yes, you probably still owe taxes on your benefits, even when you have paid Social Security taxes throughout your career. There are different thresholds for how much you pay in taxes, and it depends on your income. If benefits are your only source of income when retiring, you can avoid paying any taxes. However, the majority of people will have to pay tax on at least some of the benefits.
The first step in deciding how much you will owe in Social Security taxes is to estimate your total income, which is half your annual allowance plus all other annual pension income (pension money, pension fund savings, etc.). So if you receive $ 25,000 per year in benefits and earn $ 40,000 per year in other retirement income, your total income is $ 12,500 + $ 40,000, or $ 52,500.
Here's how much of your benefits can be taxed depending on total income:
| Percentage of tax benefits | Combined income if you file taxes as a person | Combined income if you are married and file taxes jointly [19659017] 0% | Less than $ 25,000 per year | Less than $ 32,000 per year |
|---|---|---|---|---|
| Up to 50% | $ 25,000 to $ 34,000 per year | $ 32,000 to $ 44,000 per year [19659020] Up to 85% | More than $ 34,000 per year | More than $ 44,000 per year |
Source: Social Security Administration.
Remember that these tax rates are only for federal taxes, and some states will make you pay state tax on your benefits (even though 37 states do not tax social security at all). Knowing what you have to pay in taxes on your benefits before retiring can help make your retirement plan as accurate as possible.
3. Do not understand what tax category you are in
Provided that you have to pay taxes for withdrawal from your retirement account, the exact amount you owe depends on the tax bracket.
Income taxes are the same at retirement they are when you work, but the difference is that at retirement you get to choose how much income you earn. You can withdraw how much you want from the pension fund each year, and that amount determines which tax class you fall into. If you spend about the same amount in retirement as you were when you worked, you probably won't notice much of a difference in the tax bill. However, if you decide to refurbish during your first retirement years and withdraw a lot of money, you may be pushing yourself into a higher tax bracket.
There are a few things you can do before you leave to make sure your tax doesn't get out of control. First, make sure you understand what tax bracket you want to be in when you leave. It will have an impact on how much you pay in income tax each year, which then affects how much you actually have to spend.
Second, you need to adjust the withdrawal strategy to stay within the desired tax range. It's smart to have a withdrawal strategy when you leave, so you don't blow your savings too quickly, but it can also help limit what you pay in taxes. Spending even a few thousand dollars over the bracket will result in a hefty tax bill, which could potentially waste the rest of your retirement plan.
Taxes are not the most exciting part of retirement planning, but they are an important aspect of your retirement plan. And the more accurately you account for them, the more financially secure you will be in your golden years.