Figuring out tax savings for retirees can feel like wandering through a maze. You’re excited about this new chapter but worried about making costly mistakes with your hard-earned money. Everyone tells you taxes in retirement are different, but what exactly does that mean for you? This is a great time to take control and find out how to maximize your tax savings so you can truly relax and enjoy your golden years.
First off, remember the tax rules change every year, so what worked in the past might not work now. That’s why we are focusing on the latest guidelines for the 2023 and 2024 tax years.
Understanding Retirement Income and Taxes
In retirement, your income might be a mix of sources: Social Security benefits, pension payments, withdrawals from 401(k)s or traditional IRAs, and perhaps income from part-time work. The good news is that the IRS gives retirees some breaks that can help reduce your tax burden.
However, not all retirement income is treated the same when it comes to taxes. Let’s take a closer look.
Tax-Deferred Accounts: Traditional 401(k) and Traditional IRA
Money in these accounts grows tax-deferred, meaning you don’t pay taxes on it until you start making withdrawals. This is a fantastic benefit during your working years because those pre-tax contributions help lower your taxable income while you’re employed.
However, when you withdraw money in retirement, those distributions are taxed at your ordinary income tax rate. And here’s a tip many retirees overlook: You can tell your plan administrator how much to withhold from each payment.
This avoids a surprise bill during tax season. Just fill out Form W-4P to let them know.
Roth Accounts: Roth 401(k) and Roth IRA
While you contribute after-tax dollars to Roth accounts, meaning you get no tax deduction upfront, qualified withdrawals during retirement are entirely tax-free. That’s right; those distributions are not included in your taxable income at all.
The great news is there are no required minimum distributions (RMDs) with a Roth IRA while you are alive. This makes Roth accounts a great option for those seeking tax diversification in retirement.
Social Security Benefits
Many people believe their Social Security benefits are entirely tax-free, and for some retirees, this might be true. Although, about 56% of Social Security recipients pay taxes on their benefits.
So how much of your Social Security is taxable? If you file as a single individual and your combined income (which includes adjusted gross income, nontaxable interest, and half your Social Security benefit) is more than $34,000, you may have to pay federal income tax on up to 85% of your benefits. This threshold drops to $25,000 for single filers if you are filing separately and lived apart from your spouse for the entire year.
For married couples filing a joint return, you may be taxed on up to 85% of your Social Security if your combined income is greater than $44,000. If you’re married and filing a separate return but lived with your spouse at any time during the tax year, you likely will have to pay taxes on your benefits. You can find this combined income or “base amount” on your Social Security Benefit Statement (SSA-1099).
What if you want to avoid taxes on your benefits but need regular income? Withholding isn’t just for traditional retirement accounts. You can opt to have federal taxes withheld from your Social Security check.
Use Form W-4V to request withholding at a 7%, 10%, 12%, or 22% withholding rate.
Maximizing Tax Deductions in Retirement
Even with savvy tax planning, chances are you’ll still owe the IRS something. That’s where deductions come in. While taking the standard deduction might be the easier route, many retirees can save money by itemizing.
This is where you need to understand common deductions so you don’t leave money on the table. Let’s dive into some key deductions for retirees.
Medical Expense Deduction
Medicare doesn’t cover all healthcare costs, especially long-term care. The good news is that seniors who itemize deductions can write off qualified medical expenses exceeding 7.5% of their adjusted gross income.
However, not all health expenses make the cut. It’s important to understand which medical expenses are deductible and which ones are not.
In the 2023 tax year, deductible medical costs can include payments to doctors, dentists, chiropractors, psychologists, prescription medications, health insurance premiums, glasses, dentures, hearing aids, home modifications for medical needs, long-term care insurance premiums, costs of transportation for medical care, and much more. There’s a lot that qualifies so carefully keep track of your expenses to maximize your savings.
Charitable Contribution Deductions
Many retirees find joy and fulfillment in giving back to their communities. For tax years 2023 and 2024, you are allowed to deduct up to 60% of your AGI for cash donations.
Donations over the 60% limit can be carried over for up to five years. And don’t forget about non-cash charitable contributions like clothing or furniture donations.
You’ll get a deduction based on the fair market value, not what you originally paid for the items. Be sure to get a receipt from the organization.
Standard Deduction for Seniors
Now here’s a special break just for those over 65. You are entitled to a larger standard deduction than younger taxpayers. When you reach 65, the IRS lets you take an extra standard deduction.
For single individuals, that means a higher standard deduction in 2023 of $15,700 as opposed to $13,850 for those under 65. That could be $1,850 of additional tax savings.
For married couples filing jointly where one spouse is 65 or older, this adds an additional $1,550 on top of the standard deduction. The benefit increases to $3,100 if both spouses are at least 65. These added amounts can significantly increase your standard deduction and decrease your taxable income, which might be better than itemizing.
State and Local Tax Deductions
Don’t forget that your state may also offer additional tax benefits for retirees. For instance, many states allow a deduction or exemption on some portion of pension or retirement income. You’ll need to consult your state’s tax website for specific information, but some examples are:
- South Carolina seniors age 65 or older are able to exclude up to $10,000 of their retirement income when filing state income tax. They also have an exemption for all Social Security income.
- Pennsylvania offers a deduction of retirement income, such as pensions, annuities, IRAs, and 401(k) plans, up to $12,000 per person.
- Mississippi seniors 65 and older can exclude the first $4,000 of retirement income.
- Georgia gives those over 65 a deduction of up to $65,000 per person for qualified retirement income. They also don’t tax Social Security income.
Planning Your Tax Savings for Retirees
You may have heard that diversifying your investments is crucial for financial security. The same concept applies to tax savings for retirees. Holding different types of retirement accounts gives you flexibility when managing your income taxes.
It’s also smart to speak to a tax professional familiar with the complex nuances of retirement income planning. That can save you a lot of stress and potentially uncover hidden tax advantages based on your individual situation.
FAQs About Tax Savings for Retirees
How Can Retirees Reduce Taxable Income?
Retirees can reduce their taxable income by considering the following:
- Taking advantage of catch-up contributions to retirement accounts like a 401(k) or IRA.
- Investing in Roth IRAs or Roth 401(k) plans that offer tax-free withdrawals in retirement.
- Delaying Social Security to increase their benefits, and reduce potential taxes on those benefits later.
- Donating to charities, for potential tax deductions.
- Making qualified distributions from health savings accounts (HSAs) to pay for medical expenses, tax-free.
Are There Any Federal Tax Breaks for Retirees?
Yes. The IRS offers various tax benefits to retirees:
- Higher standard deduction for seniors age 65 or older, with extra amounts based on filing status.
- Medical expense deduction allows seniors who itemize to deduct costs exceeding 7.5% of their AGI.
- Tax credit for low-income seniors with an AGI below certain thresholds.
How Can Senior Citizens Reduce Taxable Income?
Senior citizens can reduce their taxable income in many of the same ways that other retirees can. The strategies already listed, like maximizing deductions for medical expenses or charitable contributions, can help reduce taxable income for seniors.
Additionally, being mindful of how and when they take income from retirement accounts can help them manage their taxes in retirement.
How Much Money Can a 72-Year-Old Make Without Paying Taxes?
Like everyone else, people aged 72 and older still need to file a tax return if their gross income is above a certain limit, and those limits change yearly.
As an example, in 2023 a single filer age 65 or older would not have to file a tax return unless their gross income is above $14,050. That threshold jumps to $27,400 for married couples over age 65 filing jointly. If your main source of income is Social Security, there’s a good chance you don’t need to file at all.
Conclusion
Tax savings for retirees are crucial to ensuring you get the most out of your hard-earned money in your golden years. It can be daunting to think about all the details of tax planning, especially when the rules and regulations keep changing. However, remember you are not alone in this.
Taking proactive steps, utilizing resources available, and working with qualified financial advisors and tax professionals can go a long way in securing your financial future. Remember to explore your individual circumstances so you can make informed decisions about your tax savings as you step into this exciting chapter of your life.
