What Can We Do?
During retirement your most of your income will probably come from three primary
sources, your social security benefit, your taxable income (pensions, annuities, part
time jobs, 401K withdrawals …), and your non-taxable income (savings accounts, sale
of property, reverse mortgage, Roth IRA withdrawals …).
Though there are considerable differences between these two examples, there are also
some similarities. Both graphs start out with an area between where the red working
taxation line starts and the blue retired taxation line starts. The green tax savings line
grows within this area, the wider the area the more tax savings. The red and blue
lines then proceed into a section where taxation levels are relatively in the same
marginal taxation range and the green line starts to fall. The third phase is what I
like to call The Hump, the 46.25% marginal bracket. This is where the green tax
savings line drops quickly. The higher the green line got before The Hump, the wider
The Hump is so that the IRS can take back 85% of your tax savings. After The Hump
both lines settle into the normal Federal brackets.
One of the keys to a successful retirement is pre-planning for sources of
non-taxable income that can at least keep you out of “The Hump”.
Prior to Social Security, $100 of income at the top end of the 15% bracket would
make $100 of your gains taxable also at a reduced 15% bracket.
Some Yearly Benefit Examples
When deferred dividends and combined with deferred SS benefits $100 of income
causes $85 of your benefits to become taxable and the combined taxable income
increase of $185 caused $185 of your dividends to also become taxable.
This results in a total taxable income increase of $370 which at the 15% Federal
bracket is $55.50 in additional tax due because of an additional $100 of additional
income. This is basically parallel taxation of parallel taxation!