7 Tax Tips for Retirees

Retirement typically comes after a long stretch of regular employment, paying regular taxes. As a retiree, you may have more freedom during the day and increased financial security. However, when it comes to taxes during retirement you may also have greater responsibility. You need to take your required minimum distribution into account (once you turn 72), consider standard or itemized deductions, and determine where you want to retire.

With a bit of preparation, whether you’re receiving Social Security benefits or retirement account distributions, tax season can be less stressful. Here are seven tax tips for retirees to help you ensure that the tax season goes smoothly and can work in your favor as much as possible.

1. Be Exact in Your Financial Records

Tax season looks very different in retirement than it did previously, and that may lead people to estimate more on their taxes than they may have needed to do when they worked. When serving as a traditional member of the workforce, many people have a relatively regulated tax experience where some of their taxes are automatically taken out of their paycheck. This type of automation does not necessarily transfer over to retirement, meaning that taxes suddenly become more of an endeavor without proper preparation. If you do not keep good records of your money, and without a clear itemized paycheck you’re used to depending on to keep track of your finances, doing your taxes may become more challenging. In that position, many retirees accidentally either under or over-estimate areas on their taxes.

To bypass that problem, avoid estimation altogether in your financial tracking and reporting. Keeping financial records that are as clear and exact as possible will save you a lot of headaches come tax season. Though countless budgeting apps can help with this type of record-keeping, retirees may prefer an analog system. No matter what method you use, and whether you have a dedicated accountant or you complete taxes by yourself, the more accurate your financial records are, the better your tax experience will be. Taking responsibility for your financial records takes some work, but it is work that is worth doing upfront.

2. Keep Track of Deductible Expenses

The largest expense category for retired people is usually medical and dental expenses, and with itemized tracking, you can make much of these into deductible expenses on your taxes. Retirees in particular have plenty of opportunities for expenses that are deductible from taxes, but in order to get those deductions, you will need to demonstrate specific proof. These deductible expenses often come from medical and dental bills, but some other categories of spending fall into this area of taxes as well. If you keep careful track of these deductible expenses, you may save yourself a lot of money during tax season.

However, choosing to get itemized deductions is an alternative rather than an addition to the standard deduction. Make sure you choose the option which makes the most financial sense for you. For example, for retirees who have other deductions, such as new state taxes, mortgage interest, or capital gains from home sales, getting to subtract itemized expenses for medical needs can even further lower the amount of your taxable income. If you keep track of your deductible expenses, you will easily be able to see whether an itemized or standard deduction will be the best way for you to go for a given tax year.

3. Be Strategic About Retirement Plans

No matter what retirement savings you already have in place, being strategic about your contributions and withdrawals to your retirement plans after retirement can be a great way to make the most of your tax season. Recognize that retirement savings processes vary based on location and circumstance – for example, married retirees may have different options for continued contributions to retirement plans after one spouse is retired.

Each retirement experience looks different, but there are certain standards from a financial standpoint. One critical separation comes with IRAs. Roth IRAs and traditional IRAs work differently in terms of taxes: with Roth IRAs, contributions are not tax-deductible, but distributions are not taxed; with traditional IRAs, contributions are tax-deductible, but distributions are taxed. Recognizing these differences can be helpful in understanding how your retirement plan strategy with distributions and contributions can help you save money on taxes or even get into a different tax bracket.

4. Properly Take Out RMDs

A common tax mistake made by retirees is forgetting about their RMDs, or required minimum distributions, from their retirement accounts. Tax planning in times of uncertainty has recently been updated for retirees since the required minimum distribution age was recently raised from 70½ to 72. This means that during the year you turn 72 and each successive year, you need to make a withdrawal that at least meets your minimum in order to avoid the RMD penalty. Your RMD rate may change with different tax laws or circumstances changes, such as if you move. By staying on top of your RMDs and making sure you make these distributions as necessary, you will avoid costly tax penalties.

In looking into retirement account distribution requirements, there are some important considerations. First of all, it needs to be noted that Roth IRA accounts do not have RMDs the same way that traditional IRAs do. Also, pandemic effects in 2020 waived RMD requirements for that tax year, so you may need a refresher into how this process works. Basically, if a required minimum distribution is not made, the IRS can issue a hefty tax penalty of 50% of the amount that you should have taken out. You want to avoid this whenever possible, so make sure that you take care of this requirement in the way that works best for you.

5. Set Aside Taxes as You Go (When Necessary)

When you properly take out those RMDs to avoid the penalty, make sure you set aside taxes for these distributions. It is important to understand that any pension checks from previous employers and other types of income including some retirement account distributions are not subject to tax. You need to know what sources of income are taxable and make sure that, when necessary, you pay or set aside the money to pay these taxes. That way, tax season will be a logical extension of your financial record-keeping and savings, rather than a stressful mess where you have to somehow find “extra” funds.

6. Think About Where You Live

Whether you’re settled in the house you raised your family in and you don’t want to leave or you’d rather retire to a completely different part of the country, thinking about where you live is important for a successful tax season. Some states are more tax-friendly than others for retirees, such as with the differences in income tax: while some states have no income tax at all, others have steep rates across various income brackets. You’ll want to consider location in a financial lens.

Additionally, if you want to downsize now that you have an empty nest, you can exclude a significant amount of capital gains on home sales from your income taxes. This type of tax-free profit from the sale of a home can also be used in some circumstances for the sale of a secondary or vacation residence, depending on which qualifications are met with rules of residency. Whatever your living situation turns out to be with retirement, make sure you look into how where you live can affect what you pay (and don’t have to pay) in taxes.

7. Give Back as a Tax Break

Many retirees like to give back to their communities, so turning your charitable contributions into a tax break can be a great boost. Qualified Charitable Distributions (QCDs) can satisfy your annual Required Minimum Distribution, plus this charitable donation will not be included in your taxable income. This is a great way to give more money directly to the cause you want to support without having the hassle, including paying taxes, on this donation as income. If you would like to give back, here are a few key points to keep in mind:

• In 2021, up to $300 can be deducted as charitable cash donations without itemizing expenses (this excludes clothing, food, furniture, and other property)
• Joint tax filers are allowed to take up to $600 without itemizing expenses

Know Yourself

Taxes are personal, so every retiree’s experience will be different. Some retirees are ready to kick back and enjoy their careful savings, while others are itching to find a new steady stream of income by owning their own business. No matter where you are and what you want to do, you want your taxes done correctly to help you to feel financially stable and have the financial flexibility you want and deserve.

With some preparation and tracking throughout the year of your expenses, along with careful consideration of your financial options, following these provided tips will help you have a smooth experience in tax season and to hopefully maximize your savings. You may not end up itemizing your taxes or making a charitable donation, but considering these options and the others above will make taxes a better experience for you and your family.