A major expense in retirement is taxes. Many retirees assume their taxes will go down once they stop working. The truth is that you could face taxes on nearly every source of income you have, including Social Security, pension benefits, qualified retirement plan distributions and more.
One of the most critical factors in a successful retirement is minimizing spending. There are many ways to accomplish this. For instance, you could limit discretionary spending on things like vacations, hobbies, dining out and shopping. You could also work on improving your personal health to reduce the need for costly medical care.
Fortunately, there are steps you can take to limit your tax exposure. For example, you could utilize income sources that are tax-free. Below are four such sources you may want to incorporate into your retirement income plan:
Cash Value Insurance
Another potential source of tax-free income is cash value life insurance, or “permanent insurance.” These types of insurance come in several different forms, including whole life, variable and universal.
With most forms of permanent insurance, the cash value you’ve paid into the policy grows tax-deferred. You can usually withdraw your premiums tax-free. And you can take any growth you’ve acquired in the form of a tax-free loan. The loans have to be repaid, however; if you don’t repay them, the outstanding balance is simply deducted from the death benefit.
There are many different types of permanent life insurance available. A financial professional can help you decide whether this is a good strategy for you and which type would be best to meet your needs and objectives.
A popular option to create a tax-free source of income in retirement is through a Roth IRA. The Roth IRA differs slightly from traditional IRAs. A traditional IRA offers tax-deductible contributions and tax-deferred growth, but all distributions are taxable.
In a Roth IRA, your contributions aren’t deductible. However, growth is still tax-deferred. Most important, though, your distributions are tax-free. That means you can use a Roth IRA to save today and create tax-free income in the future.
Always keep in mind, however, that you must be at least 59½ to receive any tax-free distributions from a Roth IRA. Withdrawals of investment growth before age 59½ may be taxable and could face an early distribution penalty. If you already have a traditional IRA, you may want to consider converting it to a Roth. A financial professional can help you with that process.
Municipal bonds are a unique source of tax-free income for many retirees. These types of bonds are issued by state governments, municipalities and other nonprofit organizations, such as hospitals. Some or all interest might be paid as tax-free interest to the bond holder depending on different situations.
You can buy these types of bonds individually or through mutual funds that specialize in municipal bonds. Always keep in mind, however, that if you sell a municipal bond for a gain, those gains could be taxable.
Health Savings Accounts (HSAs)
Although an HSA will not produce tax-free income that you can use freely and for anything, it will create a source of tax-free money that can be used for any out-of-pocket medical costs. Any contribution you make to an HSA is tax-deductible. Once the money is in the account, it will grow on a tax-deferred basis until you decide to use it. If you need to use these funds for a medical cost, the distributions are also tax-free. An HSA can be an effective way to offset health care costs after you retire.
Ready to plan your tax-free retirement? Let’s talk about it. We can help you analyze your needs and develop a strategy. Let’s connect soon.
This information is designed to provide a general overview with regard to the subject matter covered and is not state specific. The authors, publisher and host are not providing legal, accounting or specific advice for your situation. By providing your information, you give consent to be contacted about the possible sale of an insurance or annuity product. This information has been provided by a Licensed Insurance Professional and does not necessarily represent the views of the presenting insurance professional. The statements and opinions expressed are those of the author and are subject to change at any time. All information is believed to be from reliable sources; however, presenting insurance professional makes no representation as to its completeness or accuracy. This material has been prepared for informational and educational purposes only. It is not intended to provide, and should not be relied upon for, accounting, legal, tax or investment advice.
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