A recent Lincoln Financial Group survey found that retirees significantly underestimate the impact taxes will have on them during their retirement years.

When asked before they retired what they expected their top expenses to be in retirement, the majority of pre-retirees surveyed anticipated home and mortgage, health care, and travel/leisure costs to be the highest. What they found after retiring, however, was that taxes topped the list.  On average, after reviewing all household expenses paid on an annual basis, retirees reported spending the most on federal income tax.  Not only did 36% say taxes were a larger expense than they had anticipated, 23% did not even consider planning for taxes as an expense prior to retirement.

Are there things one could do to better manage the tax bite in retirement? Yes!  Here are a few ideas to consider.

• Balancing income and capital gains taxes. There are many ways to reduce the overall taxation of an investment portfolio, especially during retirement. For example, not only locating more tax-efficient assets in less tax efficient accounts and vice-versa, but additionally creating a distribution strategy based not only on income-producing assets but also on the drawdown of assets. When the latter is utilized in taxable accounts, the lower capital gains rates reduce overall portfolio taxation.
• Minimizing required minimum distribution taxation from IRAs and 401(k)s. Once you turn age 71, you are required to start liquidating your retirement accounts, and the distributions are taxed at ordinary income rates. Utilizing Roth conversions to reduce the size of such accounts prior to that time during periods when taxes are expected to be lower is a very strategic way to reduce lifetime taxation thus preserving more wealth.
• Reducing debt. The more debt you have in retirement, the more income you will need to cover it. If the income comes from IRAs or 401(k)s, or requires the sale of assets, it will drive up your taxes.
• Eliminating probate costs. Although this is really a tax borne by your estate, it’s worth minimizing if your goal is to pass on as much as possible to your heirs.

Much of retirement and investment planning involves tax planning.  If you’re doing it yourself, make sure to consider the tax ramifications of your decisions.

Here’s a link to the Lincoln Financial Group study:  https://www.lfg.com/lfg/DOCS/pdf/rna/LFD-WPSP-BRC001_Z01.pdf