Hoping to retire this year? With new tax laws in place, learn some important financial considerations for this transitional time in your life
By 2030, all of the people included in the baby boomer generation will be at least 65, according to the U.S. Census Bureau. And over the next few years, many more people in this generation will be retiring or preparing for retirement.
No matter what your financial situation looks like, there are important tax requirements to keep in mind for this period in your life. Make sure you get your taxes right as you retire so you avoid any costly errors or missteps. The Tax Cuts and Jobs Act (TCJA) has also made some significant changes you need to be aware of as you move forward into retirement.
Changes from the TCJA
Let’s first take a look at significant impacts that the TCJA will have on your taxes.
Some deductions were eliminated or changed. There is no longer a personal exemption if you are not a dependent, and mortgage interest deductions have been lowered. In addition, the state and local tax deduction are limited to $10,000 (which isn’t great news for those living in high-property-tax states).
The standard deduction is higher. The standard deduction has doubled from $12,700 to $24,000 for joint filers, and from $6,350 to $12,000 for singles. For couples over age 65, there is an additional $1,300 added to this deduction and $1,600 for single people over 65.
New tax brackets. The tax bracket percentages have been reduced: 15 percent is now 12, 25 percent is now 22, and 28 percent is now 24.
Tax on retirement account withdrawals could be lower. Withdrawals from your 401(k) or IRA may have lower tax amounts, as required minimum distributions will be taxed at the ordinary income rate.
Charitable donations. If you’re over the age of 70 ½, you can now donate required minimum distributions to charity, up to $100,000. If you have your account custodian make the transfer to the charitable organization, you can avoid paying income tax on the equivalent of those required minimum distributions.
Required minimum distributions
As touched upon above, once you hit 70 ½, you’ll have to start your required minimum distributions from your retirement accounts, and you have until April of the next calendar year after you turn this age to start.
The amount of your required minimum distribution will vary, so be sure to take a look at the factors used by the IRS to determine your number, or talk to a tax professional. The penalty for failing to take these annual withdrawals is 50 percent of the amount you were supposed to withdraw, so it’s worth being extremely detailed and cautious.
Make payments when you receive distributions
Remember that you cannot wait until your end-of-year tax return to pay the taxes on your retirement income. You have to actually pay these taxes as you receive the money. This may or may not be done automatically by your former employer or by financial institutions that manage your accounts, so make sure that it’s not your responsibility to pay these taxes, which are called estimated quarterly taxes.
However, if your retirement income is coming from a Roth IRA, remember that this income has already been taxed, so withdrawals are tax-free. This is why some financial advisors may suggest that you convert your 401(k) funds to a Roth IRA early on to avoid future tax liabilities.
Social Security income considerations
Social Security income is taxed a bit differently. In fact, this income is only taxed if you’re single and have an income above $25,000, or are married with income above $32,000. These income levels are based on the sum of half of your Social Security income plus other retirement income. If this describes you, up to half of your Social Security income could be taxed (and up to 85 percent if you make $34,000 or above as a single filer and $44,000 or above as a joint filer).
This means that to stay within your limits and avoid paying taxes on Social Security, you need to balance your income from your retirement plans or other income while making sure you’re meeting guidelines for the required minimum distributions of your accounts.
Know retirement account contribution limits
If you’re still only in the retirement planning phase, understand there are annual limits to the amount you can contribute to your retirement accounts, as stipulated by the IRS. For both IRAs and Roth IRAs, you can’t contribute more than $6,000, or $7,000 if you’re 50 or older, or more than your taxable compensation for the year if it was less than this limit. These limits don’t apply to rollovers or qualified reservist repayments.
For 401(k)s, 403(b)s, and most 457 plans, the limit is $19,000, or $25,000 if you’re over age 50.
When you’re planning for retirement, it’s always smart to sit down with a tax professional to make sure you’ve thought of every concern, and to ensure you have a strategy in place that will help you reduce the amount you pay in taxes. Contact the team at Provident CPA & Business Advisors today to learn how we can help.