Long before it’s time to start taking money out of your retirement accounts, you need a strategy of how to do it with the least hassle and the least taxes.
A good first step is avoiding common mistakes like these.
1. Withdrawing from your retirement accounts first
Ready to sell some investments and start converting your nest egg into an income? You should take money out of nonretirement accounts first.
Why? Two reasons. First, the investments in your retirement accounts are growing tax-free. Leave them there as long as possible.
Then, there are taxes to consider. When you tap your IRA or 401(k), withdrawals count as ordinary income, meaning you could pay up to 37% in taxes.
But if you sell stocks, bonds or mutual funds that aren’t in your retirement accounts, providing you’ve held them for longer than a year, you could be rewarded with capital gains tax rates — meaning you only pay taxes on the gains, with rates ranging from 0% to 20%.
This move alone could cut your tax bill significantly and mean thousands more in retirement income.
Of course, as with most rules, there are exceptions. Which leads me to this question: Did you already know this?
If you didn’t, this is an example of why you really need to talk to a fiduciary financial adviser who can help you figure things out. This is a prime example of an expert potentially saving you much more than they cost.
Where do you find advice you can trust at a price you can afford?
We recommend SmartAsset's free matching platform. In under five minutes, you can find up to three registered fiduciaries in your area, each legally bound to act in your best interest.
Now, let’s move on to the next common mistake.
2. Claiming Social Security benefits at 62
If you want your maximum Social Security benefits, you’ll need to work until your “full retirement age,” which is between ages 66 and 67 depending on the year you were born.
But waiting till age 62, 66 or 67 still won’t mean you’ll earn your maximum benefits. That happens when you wait until age 70.
Every year after your full retirement age, your monthly payout increases by up to 8% per year you wait, up until age 70. So, if your full retirement age is 66, waiting till age 70 to start collecting could mean 32% more income for life.
As with the rule above, however, this one also has exceptions. Everyone’s situation is unique. This is another place a qualified financial adviser can help you sort through the options and decide your best path.
Again, the benefits of talking to a pro could far outweigh the cost. That’s why you should at least get a free consultation from the advisers you’ll find on SmartAsset's free matching platform.
3. Withdrawing from your retirement accounts before you have to
You know you can start withdrawing from your 401(k) or IRA penalty-free, when you’re 59½, but did you know that it’s not always the best idea?
You’re not forced to make required minimum distributions (RMDs) from your accounts until the year in which you turn 72. So if you don’t need the money, it might make sense to let it compound tax-free for as long as possible.
It’s also possible to roll some of your regular retirement savings into a Roth account, or open one while you’re still working. Then, when you do start taking the money, withdrawals will be tax-free.
Even if you make too much to contribute to a Roth now, there are still ways to legally fund one via what’s called a “back-door” Roth.
A financial adviser can explain all this and help you decide whether this is a good idea for you.
And speaking of Roth accounts, here’s another mistake to avoid.
4. Tapping your Roth
You already paid taxes on the money you put into your Roth, so when you take it out, it’s tax-free.
This means the more money you have in your Roth, and the more it compounds tax-free, the more tax-free money you can ultimately take out.
That’s why you want to postpone your Roth withdrawals for as long as possible.
Another advantage of a Roth: No RMDs. Since you’ve already paid taxes on your Roth contributions, Uncle Sam doesn’t care how long you leave it there.
5. Not getting help
As you’ve probably figured out by now, this article is about motivating you to get help with your retirement plan distributions, as well as the rest of your financial planning.
Determining the optimal sequence to withdraw money from your retirement accounts is different for everyone, and the process can be complicated. And that’s why for most people — but not everyone — an objective outside expert can make a real difference.
So if it’s right for you, you should speak with a financial adviser. And you should use SmartAsset to find one, since they’ll hook you up with up to three fiduciary advisers near you in as little as five minutes and totally free. Many advisers offer free initial consultations, so you can get advice that can help you avoid mistakes like the ones in this article.
If you’ve guessed that we’re getting something from referring you to SmartAsset, you’re right: We are. But that doesn’t mean it’s not good, solid advice. If we didn’t believe it, we wouldn’t say it.
It should be obvious that if you’ve got investment questions or concerns, turning to an experienced professional simply makes sense. And SmartAsset is a good source to find — in just a few minutes — up to three local fiduciary investment advisers who have been rigorously screened for regulatory disclosures and to confirm their licenses.
Bottom line? If you want to avoid these and other mistakes, getting expert money advice is never a bad idea.