Not if, but When, Will I Pay Taxes in Retirement?
Have your question answered on the Money Wisdom Question Series!
Today’s question is: Not if, but when, am I going to pay taxes in retirement?
Benjamin Franklin is commonly attributed with the quote that says, “There’s nothing certain in life but death and taxes.” Isn’t that the truth? However, understanding when you’re going to pay taxes really comes down to the most pivotal thing: what did you add your money to before you retired? And even in the early years of retirement, when we look at investments, there are generally three types of accounts that exist and each of them has a unique tax treatment.
#1: Fully Taxable Accounts
Number one are accounts that are fully taxable. Think your bank account. In the past few years, we’ve actually started to see people getting tax forms from a bank account and being able to have taxable interest. That’s true in what’s called a brokerage account, or a non-qualified account. It’s an investment account, not a retirement account, that holds investments whether those be stocks, bonds, mutual funds, etc. As those investments grow and the gains from the growth (or losses) are exposed, that’s when we pay the taxes.
Now that happens in those accounts whether we withdraw the funds or not. Here is a quick example: I buy ABC Company stock for $10. It grows to $20. If I haven’t sold that stock, I haven’t paid taxes on it. The moment I sell it, I now realize the taxable gain. Therefore, I’m taxed on the $10 of growth. I’m not taxed on the principal again, but the growth.
#2: Pre-Tax or Traditional Accounts
Account number two is probably the most common type that we interact with, which is pre-tax or traditional accounts. Those typically come in traditional IRAs, a traditional pre-tax 401(k), or some other type of retirement account like a 403(b). When you contribute money into those accounts, you’re getting a tax deduction upfront for the amount you put in. But then, in the future, any growth that account has experienced (along with the contribution itself) will be taxed upon withdrawal.
The benefit is deferred taxes and years of compounding growth that would have been taxed otherwise.
#3: Roth
Account number three is something that has been introduced more recently, in the past 20 years or so. That is a Roth.
Roth can, again, be a 401(k) or most commonly, an IRA. In that count, it’s inverse to a traditional IRA. You pay the taxes upfront, but as long as you follow a couple different rules that are established, you continue to get tax-free growth for the rest of your life. So, the principal would never be taxed again nor would the gains.
Long Story Short
So, the short answer to “when will I pay taxes?” is “when you withdraw.” While this holds truth, it’s not the whole story. Be sure when you’re building your retirement plan to know when it is you’re going to pay taxes. It’s not a matter of “if” but “when.” Ensure you plan accordingly to avoid giving Uncle Sam a tip.
Information presented in our podcasts is considered current as of the created date. Over time, some information presented may become stale. We recommend you consult with your Financial Professional before making any changes based on information contained here.
Johnson Brunetti is a marketing name for the businesses of JB Capital and JN Financial.
Investment Advisory Services offered through JB Capital, LLC. Insurance Products offered through JN Financial, LLC.
The guarantees provided by any type of insurance contract are based on the claims-paying ability of the insurance company.
Related Resources
-
Staying Ahead of the Tax Curve
Retirement doesn’t mean you stop paying taxes – but there are ways to minimize the bite in the long run. With thoughtful, proactive tax planning, you can stay ahead of the curve and keep more of w… -
What’s the Best Age to Start Taking RMDs?
Is it better to take your required minimum distribution (RMD) sooner rather than later? While the IRS determines when you must begin taking RMDs, you may benefit from taking them earlier. An RM… -
Should I Downsize My Home for Retirement?
Equity is on the minds of many pre-retirees and retirees today, more specifically: Should I downsize my home in retirement? And if so, when is the right time to do it? In this week’s Money Wisd… -
How Can You Protect Your Retirement Assets for Your Family?
When you’re focused on planning for retirement, it’s easy to overlook how you can protect your assets for both yourself and your family. While there’s no one-size-fits-all approach, your first ste… -
What Level of Risk Is Right for Your Retirement Plan?
In this week’s Money Wisdom Question Series, Ian Fergusson, RICP® addresses a fundamental concern for anyone approaching or in retirement: What level of risk is appropriate for my retirement plan?… -
What Estate Planning Steps Should I Take?
With retirement on the horizon, you may be wondering what steps you should be taking from an estate planning standpoint. At its core, there are three key estate planning considerations to keep in … -
Podcast 407: Is My Social Security Income Taxable?
Prefer to watch? Click here to watch and listen on YouTube. A common misconception about Social Security is that whether your benefits are taxed depends on the state you live in. While state ta… -
How Can I Protect My Retirement Savings from Market Volatility?
We’ve been receiving a lot of questions lately about how to best protect your retirement savings against stock market volatility. It’s easy to let recent fluctuations in the market shake your conf… -
Avoiding the Retirement Tax Trap
Once you retire, understanding your tax implications becomes even more crucial. After all, taxes don’t disappear in retirement. In fact, as you begin withdrawing from your retirement savings, you … -
Podcast Episode 405: The Retirement Tax Trap
Prefer to watch? Click here to watch and listen on YouTube. The term “tax trap” comes from the misconception that you’ll need less income in retirement, so you’ll pay lower taxes. This leads ma…