Retirement Doesn’t End Taxes. Here’s Why Your Withdrawal Order Matters

A lot of people are surprised by their tax bill in the first few years of retirement. They expected it to drop, and sometimes it does. But between required withdrawals, Social Security being partly taxable and higher Medicare premiums for higher incomes, it doesn’t always work out that way.

The good news? You usually have more say over your taxes in retirement than you did while you were working. It mostly comes down to which accounts you draw from, and when.

Your money probably sits in three kinds of accounts

Regular taxable accounts, like a brokerage account or savings, are taxed as you go on interest, dividends and gains. Tax-deferred accounts, like a traditional IRA or 401(k), haven’t been taxed yet, so every dollar you take out is usually taxed as income. And Roth accounts are the nice ones: if you follow the rules, what you take out is tax-free.

The usual advice, and where it falls short

You’ll often hear: spend the taxable money first, then the IRA, and save the Roth for last. It isn’t bad advice. The problem is that following it to the letter can let your IRA keep growing untouched, until required withdrawals kick in and force you to take out large amounts. That can push you into a higher bracket later on, right when you least want it.

What tends to work better

Instead of draining one account at a time, many retirees look at their income one year at a time. A few ideas to discuss with your tax professional:

• Use your low-income years. The stretch after you stop working, but before Social Security and required withdrawals start, can be a good window to take some IRA money or convert part of it to a Roth at a lower rate.
• Watch the Social Security effect. The more other income you have, the more of your benefit can be taxed, up to 85%.
• Don’t forget Medicare. Higher income can raise your Part B and Part D premiums. It’s based on your tax return from two years earlier, so a big withdrawal now can show up in your premiums later.
• Think about the surviving spouse. When one spouse passes away, the other usually files as single, with narrower brackets. The same income can mean a higher tax bill.

None of this needs to be complicated. But a little planning each year, especially early in retirement, can keep a lot more of your savings in your pocket over the long run.

A quick note: this is general information, not tax, legal or investment advice. The rules change from time to time, and your situation is your own, so check with a professional before you act on anything here.