Lower Taxes in Retirement

Here’s something I’ve been hearing a lot lately: that people are foolish for putting money in their 401(k) plans. They say that deferring taxes now and paying them at retirement will cost you because your taxes will be substantially higher in retirement. But for many retirees, that is untrue.

According to a June, 2015 GAO (Government Accounting Office) analysis, the average 55 to 64 year old’s retirement plan balance is $104,000. That would provide a retirement annuity of about $300 per month or so. That is not likely to cause someone’s tax bracket to be higher in retirement than that of their working years. Even a couple with a hefty $1 million in pre-tax retirement assets who use a 4% withdrawal rate or take RMD’s would only be taking taxable withdrawals of $40,000 to $50,000 throughout most of their retirement years. That keeps them within the 15% marginal tax bracket.

So why are taxes in retirement likely to be lower? Several reasons.

First, many of us will have diverse sources of retirement income, with different tax treatment on each. We might have pensions, pre-tax retirement plan distributions, Social Security, Roth distributions, and other income sources. Some of it will be fully taxable, some partially taxable and some tax free.

Another reason that many of us will pay lower taxes in retirement is that retirees will not need to earn or spend nearly as much in order to enjoy the same lifestyle. You won’t be saving in your retirement accounts anymore. You won’t be paying FICA and Medicare. So right off the bat their income need could be 15 to 20 percent less than your current salary. Maybe your mortgage is paid off by then, the kids are out, and when you add all this up, it only stands to reason that if you’re spending and earning less, then you’ll pay less in taxes.

Of course, there are always exceptions to this. Warren Buffet or Oprah Winfrey will probably be in as high or higher tax bracket someday. And there are clearly some instances where a capital gain, RMD or some other taxable event could cause bracket creep in retirement. those instances are far less common.

The key is to begin building tax diversification before you retire. That’s something we at Lucia Capital Group call “tax alpha” – seeking to add value by potentially increasing net after tax returns… Because sometimes it’s not just what you earn that matters, it’s what you keep.

Information presented should not be considered specific tax, legal, or investment advice. You should always seek counsel of the appropriate advisor prior to making any investment decision. All investments are subject to risk including the loss of principal.

The information provided is based on current laws, which are subject to change at any time. Lucia Capital Group is not affiliated with or endorsed by the Social Security Administration or any government agency.

Social Security rules can be complex. For more information about Social Security benefits, visit the SSA website at www.ssa.gov, or call (800) 772-1213 to speak with an SSA representative.

Raymond J. Lucia Jr. is chairman of Lucia Capital Group, and CEO of its affiliated broker/dealer, Lucia Securities, LLC, member FINRA/SIPC, which is a subsidiary of Lucia Capital Group, a registered investment advisor. Registration with the SEC does not imply a certain level of skill or training. Advisory services offered through Lucia Capital Group. Securities offered through Lucia Securities, LLC.

Roth IRA distributions of principal from a Roth IRA are tax-free; however, any earnings will be taxed at ordinary income rates and a 10% penalty tax will apply if withdrawn prior to age 59½ or within five years of the date the Roth IRA was established, whichever is longer.

No client or prospective client should assume that the information contained herein (or any component thereof) serves as the receipt of, or a substitute for, personalized advice from Lucia Capital Group, its investment adviser representatives, affiliates or any other investment professional. CAA-10919 (03/16)

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