^{Episode 4}
How Much Of Your Retirement Savings Is Actually Yours?

This transcript has been lightly edited for readability. 

Welcome back to The Retirement Game Plan. Today we're talking about one of the most overlooked items there is in retirement, and that's taxes. People spend decades saving money and growing investments and preparing for retirement, but very few people actually sit down and ask how much of that money belongs to them, and how much of it is eventually going to go to taxes. 

I wanted to start with a story I heard about 20 years ago from a fellow advisor, and it always stuck with me. He said he'd sit down with people who would pull out their 401(k) or IRA statement, proud of how much they'd accumulated. He'd take the statement, hold it up, turn it a little one way and the other, and say, "You know, I just don't know how much that thing's worth." The client would say, "What are you talking about? It's worth two million dollars," or whatever the number said. And he'd chuckle and explain that the money hasn't been taxed yet, and you don't even know what rate it's going to be taxed at, because you're not in control of the IRS's laws. 

That story resonated with me, because what are we taught as adults? Go save and accumulate. Put as much into the work plan as you possibly can. He isn't wrong. We really don't know what that account is worth until we actually pull the money out and spend it. 
So today we're going to talk about taxes in retirement, and some strategies to help offset and manage them. A lot of people think retirement planning is only about building wealth, when really it's about how much of that wealth you get to keep, creating efficient income streams from it, and avoiding unnecessary taxes along the way. Let's face it, I don't think anybody is particularly excited about supporting the federal government these days. 

Let's talk about the retirement tax bomb. We've worked our whole lives, saved and accumulated dollars into our 401(k), our traditional IRA, or maybe some other tax-deferred account. But that money hasn't been taxed yet. During our working years, putting money into those accounts lowered our taxable income, and the investments grew tax-deferred. Eventually, though, the IRS wants its share, and with all the debt we face as a country, they're probably not going to let that part slide. 

I see it all the time: people assume their taxes will automatically be lower in retirement. Sometimes that's true. But depending on how well you've saved, you might actually land in the same or a higher tax bracket in retirement if you haven't planned appropriately. Why? Because at a certain age, you have to take what's called required minimum distributions, or RMDs. It's kind of a dirty phrase in the retirement planning world. That's when the IRS requires you to start pulling money out of those pre-tax accounts and paying tax on it. 

On top of that, you've got Social Security benefits, pension income, rental income, and investment income all layered in. Combined, if you've saved well, that can push you into a similar or even higher bracket than you were in while working. 

A couple basics on RMDs, without getting too deep into the weeds: if you were born before 1960, they start at age 73. If you were born after 1960, the age is now 75. When they start, it's roughly 4 percent of your account balance each year. So if you have a million dollars in an IRA or 401(k), you'd have to take out roughly $40,000, pay tax on it, and then you're free to do whatever you want with it: spend it, reinvest it, give it away. But whether you need that $40,000 or not, you still have to take it out and pay the tax. 

Here's a story that illustrates it well. A couple saved diligently throughout their working years, mostly into their 401(k). They took advantage of the company match, kept their portfolio invested properly, and paid off their debts along the way. By retirement, their house was paid off and their expenses were low, so they didn't need much in withdrawals. But their accounts kept growing and growing through their early retirement years, because they simply didn't need the money. 

Then they hit age 73, and RMDs kicked in. They didn't like having to take out $50,000 a year they didn't need, and they liked it even less that it pushed their tax bracket higher than what they'd been paying. It also pushed their Medicare premium up, because they crossed the IRMAA threshold, the Income Related Monthly Adjustment Amount we talked about in a prior show. And it triggered a higher tax rate on their Social Security benefits. 

The point of that story isn't that they did anything wrong. They just didn't look far enough ahead. They were so focused on keeping their taxable income low early in retirement that they didn't plan for what would happen later. Unless you're particularly fond of the IRS, you need a strategy to get some of those dollars taxed earlier in retirement, so you're not forced into a higher rate later. 

The second thing that surprises a lot of people is the taxation of Social Security benefits. People are often shocked, because they assume they already paid tax on the money that went into the Social Security system. But not everybody pays tax on their benefits, and the calculation is a little involved. Here's the simple version: you take half of your Social Security benefit and count it toward what's called your combined income. So if a married couple is receiving $60,000 a year in benefits, $30,000 counts toward combined income. Add on any other taxable income, whether that's IRA distributions, pension income, farm rent, or business income. If that total is above $44,000 for a married couple filing jointly, then 85 percent of the Social Security benefit you received is taxed as ordinary income. 

I want to be clear on that, because I see this misunderstanding all the time. It's not an 85 percent tax rate on your Social Security. It's that 85 percent of the benefit you received is taxed at whatever bracket you're in. So you could have two couples receiving the exact same Social Security benefit, and one pays tax on it while the other doesn't, based entirely on their combined income. 

Now let's talk strategy. The biggest one we talk about with clients all the time is the Roth conversion. It can feel a little daunting, because it creates more tax due today. But if you're thinking long-term, it's a fantastic way to manage your lifetime tax liability. How does it work? We take money from a pre-tax account, like a 401(k) or traditional IRA, and willingly pay the income tax on it today. We use tax planning software to figure out the right amount to convert, and we call it optimizing a tax bracket. 

Here's what that means in practice. Say a married couple has $100,000 in adjusted gross income. If we can go up to roughly $211,000 to max out the 12 percent bracket, we might consider converting $100,000 so we fully use up that 22 percent bracket, without going into the next one. There are other factors that play into it too: Social Security taxation, IRMAA, and the new additional deduction for anyone over 65 from the recent tax legislation. But the goal is to fill up the dollars taxed at a certain rate today, so we've eliminated the tax liability on those dollars for the rest of your life. And right now, we're in one of the lowest tax rate environments this country has seen in about 100 years. 

There's another angle worth thinking about too. If you don't end up using those dollars and your kids inherit the account, the tax liability doesn't disappear. Your kids pay tax at whatever bracket they're in. If you could have paid 12 percent today, but your child inherits the account, has 10 years to drain it, and is in the 24 percent bracket, you've just chosen to hand the IRS more money than they deserve. I've yet to meet anyone particularly fond of the IRS. That's why we find it so important, roughly between ages 62 and 73 or 75, to be strategic and plan accordingly. 

The other piece of the strategy is coordinating your distributions. A lot of new retirees don't know which account to pull income from first: the 401(k), the Roth IRA, or a non-qualified account. Coordinating that is just as important as the conversion itself. We worked with a couple who retired a couple years ago with a decent amount saved in 401(k)s and IRAs. We intentionally pulled from their non-qualified accounts in their first couple years of retirement, which helped them avoid paying any tax on their Social Security benefits. They didn't need much beyond what Social Security provided, so by being intentional about where the withdrawals came from, we minimized, almost eliminated, their tax liability in those early years. 

That's where people get overwhelmed. They know they have the dollars, they just don't know where to pull them from. That's our job as an advisor: to help walk through the moving parts and make sure the decisions are strategic. 

Retirement planning isn't just about investment returns. It's about creating income streams that work efficiently for you and help you optimize the tax brackets you land in. A lot of people tell me they've saved well but aren't sure if they're actually ready to retire, and that's completely normal. That's part of why we built the Are You Really Ready to Retire quiz, so people can find that out for themselves. The link is in the show notes. 

So where does the Financial Game Plan fit into all of this? First and foremost, it helps identify where your money is going to come from. It explores whether Roth conversions make sense, and if so, how much to convert. It takes one of the biggest risks in retirement, taxation, and helps alleviate it. The goal is never just to reduce taxes for the sake of it, but to build a long-term strategy to manage them. With good planning, you should understand your current tax exposure and your future tax exposure, see the planning opportunities available, and know where withdrawals should come from and how they'll be taxed. 

Doing all of that creates clarity. And that's the biggest thing I hope everyone gets out of their retirement planning: moving from "I hope this works" to "I understand how this works." That's a key part of retirement success. 

So if you take one thing away from today, let it be this: retirement tax planning isn't just about today's taxes. It's about understanding how taxes will impact your lifestyle throughout your entire retirement journey. 

A few questions to leave you with. Do you know where your retirement income is coming from, and do you know how it's going to be taxed? Are you thinking strategically about whether those accounts could lead to higher tax rates down the road? Have you thought through how required minimum distributions will impact your lifestyle? Are you taking advantage of the planning opportunities available to you right now? Have you truly explored all the options to minimize your tax liability over the long run? 

If you haven't, that's okay. I'd just encourage you to go do it as soon as you possibly can. 

That's it for taxes today. I appreciate you spending some time with us. Go out and subscribe to the show, give us a like or follow us on social media, and now go out there and be great.