Where Should You Pull Funds from First in Retirement?

hey everybody i'm james canal founder of root financial partners and i'm here to teach you what you need to know to create a secure retirement now when you're working you have a paycheck coming in every couple weeks or so and that paycheck helps you to cover all the expenses that you have but when you retire that paycheck goes away when that paycheck goes away it can be overwhelming to understand where you should pull income from first not just that but if you pull income from the wrong place at the wrong time it could potentially lead to you paying more in taxes than you need to in retirement in today's video we're going to talk about where you should pull funds from first in retirement so that you can create the income you need and keep your taxes as low as possible throughout retirement once you retire it's really up to you to create your own paycheck your salary is gone and it is up to you to determine where is income going to come from next now in retirement many times it's not just one paycheck that you're creating but it's a series of many paychecks it might be income from investment accounts it might be income from other places like social security or pension and the real question is how can we combine these series of many paychecks to replace that one big paycheck that we had to be able to create the lifestyle that we want to have in retirement so how do we go about doing that well there's a few things that we need to do number one you need to understand what fixed income sources that you will have so before we talk about should i pull funds from an ira or a 401k or roth ira or a brokerage account set that aside for a second really the first question is what fixed income sources will you have that could be social security it could be a pension it could be rental income it could be annuity income it really it's anything that's coming in any income coming in that doesn't require you to pull money from your portfolio why do we start with that well that's money that's just going to be there almost like as a foundation or the base you don't have to plan for that you don't have to create that through investing the right way it's just income that's coming in before you have to tap into your portfolio so that's important to start because in retirement as you're replacing a paycheck really what you're trying to do is replace some level of income so step number one is understanding what level of income is going to be coming in before i tap into my portfolio so if here's the income i want to have how much is coming from social security and pension and rental income so you see what base you have knowing that the difference that's the amount that's going to need to come from your portfolio so step number two is to do just that is to understand what's the shortfall between those fixed income sources those social security and pension and rental income sources what's the difference between that and the level of expenses that you want to have to support your ideal retirement so let's look at an example assume you want to spend a hundred thousand dollars per year in retirement after taxes that's your goal that's the income goal that you have but what you do know is that maybe between you and a spouse 45 000 of that is coming in from social security what that tells us is the remaining 55 000 needs to come from your portfolio if you don't have any additional pension or other income sources so if 100 000 is our goal and 45 000 has come from social security and we're not factoring in taxes yet but the difference that's what needs to come from your portfolio now step three here so once you've determined what your fixed income sources are step one once you've determined the difference or the shortfall between those fixed income sources and your expenses step two step number three is to understand the different types of accounts that you have and in general there's three main types of accounts there are taxable accounts which might be an individual account or a joint account or trust account really any investment account that you have that isn't in some type of retirement account those are just considered taxable accounts number two you have tax deferred accounts these are traditional iras sep iras simple iras 401ks 403 b's any money that you've put away pre-tax i mean it hasn't been taxed yet and it's growing tax deferred but when you pull it out it will all be fully taxable that's the second type tax deferred accounts and the third type is tax-free accounts and these are essentially roth iras and roth 401ks any type of account that you have where whatever you pull out of it that money is not taxable at all because you've already paid the taxes on it so step number three is what are the different types of accounts that you have between taxable tax deferred and tax free now here's one approach most people they start with that and most people's approach is they'll say you know what it makes sense to fully spend the taxable account first spend the individual accounts the brokerage account so joint account spend those first because you have these irs and these roth iras and there's some great tax benefits for that any growth on that it grows completely tax free at least tax deferred so let's preserve those and let those grow as long as possible and there is a lot of truth to that so the general approach is can we fully spin down our taxable accounts first and then can we spin down our tax deferred accounts iras 401ks things like that and then finally spin down the roth iras because we want the roth iras going as long as possible because all that money is completely tax-free so let's push that off let's maximize the growth before we start spending it down now that can be a good starting point for an approach but what it doesn't focus on is it doesn't focus on how do we minimize the overall tax bracket throughout retirement which is something that's very important and really it's going to be the main driver of where you should pull funds from first in retirement i want to take a more specific approach and this specific approach should be driven by taxes and driven by the tax brackets that you'll be in and let's use an example to show what this looks like let's assume that you have a pension and you have social security and they cover some of your needs but let's still assume that you need another forty thousand dollars of income from investments to live on so social security and pension covers a part but you still need forty thousand dollars more from your income or your portfolio let's also assume that your taxable income so the amount of taxes you're paying on social security in your pension is 60 000 now that's important to know because if you look at the federal tax brackets in 2021 you'll know that once your taxable income exceeds eighty thousand two hundred and fifty dollars if you're married finally jointly what happens after that is you're gonna start you're gonna jump up into a new tax bracket anything below eighty thousand two hundred fifty dollars is taxed at twelve percent and at the federal level anything above eighty thousand two hundred fifty dollars is taxed at twenty two percent so it's a pretty significant jump income up until that threshold is taxed at 12 percent but income above that threshold and before hitting the next one is taxed at 22 almost double the taxes so if you need another 40 000 if you were to take that all from a traditional ira then what that does it says if you already have sixty thousand dollars of taxable income and i pull another forty thousand from a traditional ira i now have a hundred thousand dollars of taxable income which means i've filled up the remainder of the twelve percent tax bracket up to eighty thousand two fifty and i've gone up another twenty thousand or so which is now taxed at twenty two percent what does that do what does that matter what can we control that yes if we have multiple types of accounts if we have taxable accounts tax deferred and tax-free one potential thing that you could do is say if i already have sixty thousand dollars of taxable income between pensions and social security i know that i need forty thousand more dollars but i know that i only have about twenty thousand dollars left in this tax bracket before i jump up into the next could i potentially take 20 000 from a traditional ira so just enough to fill up this tax bracket which keeps me at 12 bracket but then any amounts above that can i take tax-free money from my taxable accounts or from cash accounts or even potentially from roth accounts if it makes sense so what that does is as i'm looking at the 40 000 of income that i need for my portfolio instead of paying about half of it at 12 percent and half of that 22 percent i'm only paying 12 percent because any other income above the 80 250 threshold i'm taken from a tax free nature either because it's an after-tax account i've already paid taxes on or it's a roth account so that's just an example but what you can see from that example is where you should pull funds from first in retirement really doesn't have as much to do with an investment strategy because hypothetically you might have the same investments and your roth accounts and your ira accounts your taxable accounts now due to something called asset location i probably recommend against that but many people that's just what they have so it's not as if withdrawing from one account first is going to change your overall investment strategy or the growth that you can expect over time but what taking a more specific a more intentional approach to where you're withdrawing funds from first does is it helps to lower your tax bracket and it helps you to manage your overall tax bracket to keep it as low as possible for as long as possible throughout retirement now here's some things to be mindful of on top of this example number one allow tax deferred accounts to work if at all possible let your roth iras grow as much as they can anything inside of a roth ira or raw 401k you're never paying taxes on again so instead of spending that money down today can we let that money keep growing can it double triple or more over time so that tax benefit isn't just whatever the value of your roth is today but it might be double that or triple that if you let that money keep compounding over time so let tax-free accounts continue to work let tax-deferred accounts even continue to work because of the tax savings you get on an annual basis going forward now another thing to be mindful of as you're determining where do i pull funds from first in retirement is be aware of what are called required minimum distributions in the future if you have a significant brokerage account for example so an after tax account you could potentially keep your tax bracket very low the first several years of retirement if you're just living on income from that just selling stocks or living on cash from that you could keep your income very low which is really fun the first few years of retirement it's fun to say you know what i'm not paying much in taxes but you must beware because if you also have a pretty sizable ira on top of that and if you're not withdrawing your ira because you don't want to have to pay taxes on it well at some point you're going to have to withdraw it at some point you're going to have a required minimum distribution right now ages are 72 where that kicks in those ages might increase in the future but at age 72 you're going to be required to start taking funds from that and if you live too much on your brokerage accounts the first few years by the time that you get to 72 or 75 or beyond you're going to be required to start taking out pretty significant distributions from your ira and at that point there's not much more you can do to hide there's not much that you can do to manage your tax bracket because you're going to be required to be taking some of these distributions so what does that have to do with well in some cases it may make sense to spin down your ira in the first few years of retirement to almost manage the balance to keep the balance at a manageable level so it doesn't become so large creating really significant required distributions in the future another thing to be mindful of is social security taxes so anywhere between 0 to 85 of your social security benefit is going to be included in your taxable income that doesn't mean that 85 of it is taxed what it means is between 0 and 85 of it is included in your taxable income how can you get to zero well hypothetically if all of your income was just coming from roth iras and social security depending on what your social security benefit is you might pay zero in taxes on that social security social security looks at something called your provisional income so if your provisional income and i'll do another episode on this another day but if your provisional income is over a certain threshold that determines how much of social security is included in your taxable income zero percent 50 percent all the way up to 85 so as you're doing these conversions as you're determining where to pull funds from first as you're looking at your overall withdrawal strategy don't just look at what are you withdrawing and how does that impact the taxes on that withdrawal but look at the second order effects of how does it impact the taxes you might be paying on social security both today or in the future another thing to be mindful of when you're determining where to take funds from first in retirement is something called irma surcharges and what this is is this is essentially surcharges or extra amounts you might have to pay on your medicare premiums so medicare part b in part d there are premiums that you pay for that but if your income is above certain thresholds those premiums increase now for today for 2021 if your taxable income or for your adjusted gross income is under 176 000 you don't have any irma surcharges there's no part b your part d surcharge but as your income increases above that these numbers are for married finance jointly by the way if you're single and it's half of that but as your income increases above that what that starts to do is it starts to increase the premiums you have to pay each month for medicare so where you pull funds from first that's another almost hidden tax you have to be aware of is how does where you pull income from today impact surcharges you'd have to pay on medicare how does income you pull in the future impact surcharges you might have to pay on medicare so keep that in mind as you're determining where to pull funds from first and then lastly understand how pulling money from different places in retirement impacts other tax strategies those tax strategies may be roth conversions which is can i start to convert money from iras to roth iras to avoid big rmds in the future and to protect against taxes in the future or those strategies might be tax gain harvesting if your income is low enough you can actually realize some gains on a taxable account and pay zero dollars in federal capital gains taxes for doing so so as you can see there's not just one simple straightforward way to pull funds in retirement what you want to do is you want to understand what are your fixed income sources social security pension rental income any income that's coming in that's not causing to tap into your portfolio that's your baseline from there understand where should you pull funds from first and pull funds from places that allow you to manage tax brackets allow you to fill up some tax brackets or some tax thresholds without jumping into the next one all the while being aware of how does this impact your social security tax or how does this impact medicare surcharges or how does this impact overall tax strategy with things like roth conversions gain loss harvesting things of that nature so thanks for watching this is james canal with root financial partners if there's someone that you're thinking of that could benefit from this video please share it with them would love for them to get this type of information so that they can make the most of their retirement withdrawals and their retirement income and if you're enjoying this video please make sure to like this video please make sure to subscribe for more videos just like this and if you want more great resources like this there's a podcast i run called ready for retirement and it's full of tips and strategies that you can utilize in addition to videos like this to create the most secure retirement possible and if you're looking for services for how you can address your retirement planning you're investing to create that comfortable retirement please check out our website at root financialpartners.com to understand more about those services [Music] you

Channel: James Conole, CFP®

Views: 265,319

Keywords: retirement investing, how to retire, retirement planning tips, retirement portfolio, retirement planning, retirement planning at 50, retirement planning at 60, how to retire early, how much do i need to retire, taxes in retiremen, how to have and good retirement, social security, pension, investment account

Id: aMeYjNcSc3M

Length: 15min 46sec (946 seconds)

Published: Sat Sep 18 2021