Help Maintain Your Wealth:
What Accounts to Withdraw From and When
Retirees are interested in preserving their wealth as long as possible. But because different assets are taxed differently – and yearly where required – the order in which you withdraw income from your retirement assets can significantly affect how fast you'll deplete your wealth. In other words, if you make retirement withdrawals from accounts that allow you to pay less retirement tax, you have more to spend. So when should you make retirement withdrawals from various types of assets?
The assets you have for your retirement can generally be categorized as:
- pension income,
- social Security income,
- savings and investments – composed of
- taxable investment and
- tax-deferred investments associated with IRAs, 401(k)s, etc,
- home equity
To maintain your wealth as long as possible, maximize annual investment growth while minimizing annual taxation of income. Those investments that are tax-deferred - under an equal investment growth scenario - will compound faster than those taxed investments that must forfeit some of their annual earnings to taxes. These latter investments compound slower.Therefore, you generally want to make retirement withdrawals from any type of tax favored account last, i.e. IRAs, 401ks, annuities.
Tax-advantaged investments like your home or those subject to capital gains can often present little or no taxation to you. Based on these points, we suggest which assets you may withdraw first or last to maximize annual growth and minimize taxation. Refer to the table.
Your pension income will be taxable as ordinary income. So that income must be taken as it comes.
Another source of income is your Social Security benefits. This is generally tax free if your other income stays under threshold amounts depending on your filing status; but up to 85% of social security income could be taxable. (You may have some control over your social security taxes). But try to hold off receiving your social security benefits until your full retirement age – probably 66 for most of you. You lose 30% of benefits if you start taking payments at age 62. Holding off 'til your 70 will credit you ~30% more in benefits.
Your IRAs and similar investments grow tax-deferred. This enhances their annual compounding capability. Retirement withdrawals from them are taxed at ordinary income rates. So let them ride and withdraw only the minimum required distribution (MRD) amounts starting at age70½.
Roth IRAs compound tax free, have no MRD requirements, and you can make retirement withdrawals from them tax free. Don't touch them 'til last, if ever. They're also the best form of IRA for your beneficiary.
Your taxable investments will have their dividends or interest earnings taxed yearly. Making retirement withdrawals from these first is best because you pay tax on the earnings whether you withdraw or not. Most anything withdrawn beyond the earnings will probably be untaxed or taxed at low capital gains rates. Take advantages of any capital losses to offset taxes too. Because of these tax effects, these investments will deplete slower than withdrawing from tax-deferred investments.
Use your home equity too. As a tax-advantaged investment, you can sell it and buy down to get at the excess equity at little or no tax since the home sale tax exclusions is $500,000 for a married couple. You can also use the equity in the form of a reverse mortgage which is also tax free cash.
When To Make Retirement Withdrawals From An Asset To Preserve Wealth
|Asset||Taxation Status||When to Withdraw as source of income|
|Pension income||Taxable||Receive as distributed|
|Social Security||Not taxable below threshold (single.., married….||Wait 'til full retirement age or hold off for higher benefits|
|IRAs, 401(k)s, etc||Taxable when distributed||Hold off 'till deplete taxable investments - just take MRD or convert to Roth IRA|
|Roth IRAs||Tax free growth and withdrawal||Hold off 'til last - best way to leave beneficiaries your IRA money|
|Taxable investments||Taxable yearly as dividends/interest or capital gain as sold||Distribute as needed before depleting IRA-type money|
|Home Equity||Capital gain/big exclusion when sold||Buy down for access to tax free or minor taxed equity|
Lose a Fortune on Your 401k Rollover
If you do not do any of these correctly:
- Opt for a distribution rather than direct transfer
- Rollover company stock to an IRA
- Choose to rollover to a Roth IRA
- Rollover to your new employer’s 401k
- Rollover post-tax contributions