When you are retired, you need all the income you can get. This income can come from many sources, including retirement accounts, pensions and social security. However, there is a good chance that you will lose at least a portion of your retirement income to the benefit of the IRS – and potentially the tax return.
The good news is, no all your retirement income is necessarily subject to tax. It is important to understand how tax rules apply to different sources of retirement funds so that you can plan accordingly and be ready when taxes become due. This guide will help you.
How are pension benefits taxed?
The federal tax rules for retirement income differ depending on the source of income and the amount you earn. Things get even more complicated with respect to state taxes, because there are big differences from one state to the other.
Here's what you need to know about how the federal government and the state in which you live can impose different benefits.
Social security benefits
The federal government imposes social security benefits, but only if your income reaches a certain threshold.
Income is calculated in a special way to determine if your social security benefits are taxable. Your income is determined by adding half of your social security benefits to all your other taxable income from other sources. Some non-taxable income, such as interest on municipal bonds, is also added to determine your total income.
If your income according to this calculation exceeds $ 25,000 as a single filer or $ 32,000 when you file a joint marriage, you could be taxed on up to 50% of your Social Security benefits. If your income exceeds $ 34,000 as a single filer or $ 44,000 when you jointly file as a marriage declaration, you will be taxed on up to 85% of the benefits.
With respect to state taxes, only 13 states impose social security benefits: Colorado, Connecticut, Kansas, Minnesota, Missouri, Montana, Nebraska, New Mexico, North Dakota, Rhode Island, Utah, Vermont and West Virginia. If you live in one of them, you will also need to know the rules of your state regarding when and how your benefits will be taxed.
If you are lucky enough to get a pension from your employer, the total amount you receive is likely to be taxable income at the federal level. That's the rule if you have not paid your own money into your employer's pension plan. However, if you have contributed to your pension with after-tax funds, you do not have to pay tax on a portion of the annuity considered a refund of your contributions. The IRS explains how to determine what part of your annuity is not taxed, but the general rule is to divide the amount paid by the number of months that the IRS estimates as your remaining life expectancy.
The IRS considers the pension income on which you are taxed as ordinary income. You are therefore taxed on the entire amount at your normal tax rate. Since we have a pay-as-you-go system in the United States, you will either have to pay taxes on your pension checks, or you will have to pay estimated taxes to avoid penalties.
With respect to state taxes, if you live in Alaska, Florida, Illinois, Mississippi, Nevada, New Hampshire, Pennsylvania, South Dakota, Tennessee, the United States. Texas, Washington State or Wyoming, your pension income will not be taxed. If you live in another state, you will need to know your local rules. Many other places are also exempt some types of pension income from taxes including Alabama, Arkansas, Colorado, Delaware, Georgia, Hawaii, Iowa, Kentucky, Louisiana, Maine, Maryland, Michigan, Missouri, Montana, New Jersey, New Mexico, New York, Ohio , Oklahoma, Oregon, South Carolina, Utah, Virginia and Wisconsin.
When you make withdrawals from traditional retirement accounts, including IRA, 403 (b), 401 (k), 457 and savings plans, the federal government will tax you these distributions as ordinary income. This means that you will pay taxes based on your tax rate. On the other hand, if you have Roth accounts, you are not subject to federal withholding taxes as long as you have complied with your age requirements and how long your accounts have been open.
State tax rules also differ as to how retirement account distributions are taxed. In Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming, there is no income tax, so you do not have to fear of being taxed on distributions from your account. In other states, including Colorado, Georgia, Kentucky, Illinois, Michigan, Mississippi, Oklahoma, Pennsylvania, South Carolina, Virginia, and Virginia. Western, at least some distributions of retirement accounts are exempt from tax. You can check with the Ministry of Revenue of your place of residence for specific rules.
Plan ahead and be ready for taxes
It is important to be prepared for the reality that taxes will reduce your retirement income. When determining your retirement income, do not forget to consider the taxes you must pay. If you want to limit the amount obtained by the government, consider investing in Roth accounts in order to create accounts. tax free withdrawals.