Retirement and Taxes

Retirement and Taxes

Retirement and (Higher) Taxes

Planning Tax-strategically is the most overlooked piece of the puzzle in retirement planning. At the end it is not how much you have, but more importantly how much you keep of what you have…after Uncle Sam gets his share.

Most employer sponsored retirement plans (pensions, 401(k)s, 403(b)s etc.) and IRA’s are tax-deferred, meaning that after enjoying the tax write-offs today, but then the entire account balance will be taxed at some point in the future, when taxes likely will be higher, and people generally have less write-offs (home mortgage, children, college, retirement contributions etc.).

Lets take a look a tax history:

In 1913, the States ratified the 16th Amendment, instituting the federal income tax. In 1913, the top tax bracket was 7 percent on all income over $500,000 ($11 million in today’s dollars); and the lowest tax bracket was 1 percent.

Wars are expensive. Especially World War 2. In 1944, the top rate peaked at 94 percent on taxable income over $200,000 ($2.5 million in today’s dollars3). That’s a high tax rate. Ronald Reagan, during that time, never made more than two movies a year. He made about $100,000 per movie, for anything he made above and beyond the $200,000, he only kept 6 cents on the dollar.

Fast-forward to today. The marginal tax rate at which the wealthiest Americans are taxes is only 37%. Taxes haven’t been this low on almost 80 years! But the big question is, how long are these historically low rates going to last? 

From 2018 to 2026, to be exact!

Congress passed the Tax Cut and Jobs Act of 2017, for an eight-year period starting January 1, 2018. During this time, tax-payers are likely to see the lowest tax rates in their lifetime. The highest income tax rate was lowered to 37 percent. Once the “tax sale” ends on January 1, 2026, taxes WILL revert to their pre-2018 levels. All congress has to do in order for your taxes to go up 8 years from now, is nothing.

The big question is, will taxes go up or down after the new tax laws expire?

The prescription for what ails our country is more revenue, less spending, or some combination of the two. But with these new tax cuts, the government gave us just the opposite. They reduced taxes over the next 8 years and will have to borrow more trillions through 2028 to pay for it. Meaning that the eventual fix for our economic woes will be even more painful than it might have been prior to the new tax cuts.

Remember the indicators for higher taxes:

  • Our social security system, with no changes made (meaning higher taxes or cutting benefits) will not be able to pay its full benefits after 2034.
  • Medicare funds, because of an aging population, are expected to run out of funds even before Social Security.
  • The current US debt is over 21 Trillion, and counting. That is a lot of money just in interest payments alone. And what is even scarier are the unfunded liabilities (future expected expenditures for social security, Medicare and US deficit) headed towards 120 Trillions (see USdebtclock.org for more details).

Why are future higher taxes of such importance to retirees?

Most people have been investing in tax-deferred retirement vehicles during their working years, such as 401(k)s, 403(b)s, IRAs etc. Tax-deferred means just that, taxes have been delayed, and will be paid at some point in the future, likely at a much higher rate.

Start Improving Your Finances Today!

The rules for a retiring generation of baby boomers have changed. Learn how those changes affect you as you prepare to live a prosperous retirement.