How Much of Your Retirement Income is Taxable?
Taxes on retirement income take many retirees by surprise, and recent tax changes that took effect in 2018 made planning even harder for some people. While still working, employers withhold estimated taxes from each paycheck. But once retired, it’s up to you to carefully calculate and manage withholdings from retirement income, which may come from a variety of sources, each with slightly different tax treatment.
It's important to be sure to have enough tax withheld from major sources of retirement income, or face a nasty tax bill April 15th. Here’s some information on how three major sources of retirement income are taxed:
- Ninety-six percent of participants in TSCL annual Senior Surveys say they receive Social Security benefits and 50 percent report that a portion of their benefits are taxable. If you are single and your adjusted gross income (AGI) plus nontaxable interest and one half of your gross annual Social Security benefits are more than $34,000 (or $44,000 for married joint filers), up to 85% of your Social Security benefits may be taxed. If you don’t want to send in quarterly estimated taxes every calendar quarter, you can use IRS Form W-4V to withhold a fixed percentage from your Social Security benefits: 7%, 10%, 12% or 22%.
- Pensions from former employers are becoming more scarce, but 62% of participants in TSCL’s Senior Surveys report a pension as a source of retirement income. If you did not contribute money toward your pension, or your employer did not withhold pension contributions from your paycheck, you should expect to pay federal taxes on your pension at ordinary tax rates. If you contributed after tax dollars to your pension, your pension payments are only partially taxable. Your pension manager may already withhold taxes from your pension, or you can opt to have taxes withheld by using IRS Form W-4V and electing the number of allowances you would like to claim.
- Savings including 401(k)s and traditional IRAs are owned by 59% of participants in TSCL’s Senior Surveys. Tax rules that require you to start taking required minimum distributions (RMD) from retirement accounts recently changed. Retirees who turn 701/2 in 2020 and thereafter, can start distributions at age 72 instead of age 70 ½. Such distributions are taxed as ordinary income, since they are funded with pretax money. Roth IRAs are the exception, and don’t require mandatory distributions. You can ask the bank or custodian of your retirement accounts to withhold a flat rate percentage from your distributions.
To learn more about withholding get IRS publication 505 Tax Withholding and Estimated Tax can help at www. IRS.gov.