3 Tax Mistakes Every Retiree Should Avoid

Retirement should be enjoyable, not stressful due to unnecessary taxes. Here are three common tax mistakes retirees make and how to avoid them.
1. Overlooking Tax Gain Harvesting
Many retirees miss out on tax gain harvesting, a strategy that can be beneficial if you're in a lower capital gains tax bracket.
How it works:

• Sell appreciated investments from taxable brokerage accounts when your income is low.
• If your taxable income (including the capital gains) falls within certain limits, you might pay 0% federal tax on long-term capital gains1.

Example: John and Mary, a retired couple, have $70,000 in taxable income for 2024. The 0% long-term capital gains rate applies up to $94,050 for married couples filing jointly2. This means:

• They could potentially realize up to $24,050 in long-term capital gains ($94,050 - $70,000) from their taxable brokerage account and pay 0% federal tax on those gains.
• If they have a stock worth $45,000 that they bought for $20,950, they could sell it all, realizing the full $24,050 gain tax-free.

Key points:

• This strategy only works for taxable brokerage accounts, not retirement accounts.
• State taxes may still apply.
• The additional income could affect other tax calculations, including Social Security benefit taxation.

2. Mismanaging Social Security Benefit Taxes
Many retirees don't realize their Social Security benefits might be taxable, depending on their "combined income"3.
Example:

• Sarah receives $24,000 yearly from Social Security.
• If she withdraws $40,000 from a traditional IRA, her combined income would be $52,000 ($40,000 + $12,000 [half of Social Security] + $0 [nontaxable interest]).
• At this income level, up to 85% of her Social Security benefits could be taxable. Here's why:
  1. For single filers, if combined income is between $25,000 and $34,000, up to 50% of benefits may be taxable.
  2. If combined income exceeds $34,000, up to 85% of benefits may be taxable4.
• In Sarah's case, $20,400 (85% of $24,000) of her Social Security benefits could be subject to tax.
• If she takes $40,000 from a Roth IRA instead, her combined income would be only $12,000 ($0 + $12,000 + $0), and none of her Social Security benefits would be taxable.

Key points:

• Traditional IRA withdrawals are taxable and increase your combined income.
• Roth IRA withdrawals are tax-free and don't affect your combined income for Social Security tax purposes.
• The source of your retirement income significantly impacts Social Security benefit taxation.
• The 85% limit is the maximum amount of Social Security that can be subject to tax; your actual tax owed depends on your total income and tax rate.

3. Not Using Qualified Charitable Distributions (QCDs)
If you're 70½ or older and charitable, QCDs can significantly reduce your tax bill5.
How it works:

• Donate directly from your IRA to a qualified charity.
• The donation counts towards your required minimum distribution (RMD) but isn't taxable income.
• You can donate up to $105,000 annually this way.

Example: Tom, 75, needs to take a $60,000 RMD and wants to donate $15,000 to charity.

• If he takes the full $60,000 RMD and then donates $15,000, he's taxed on the entire $60,000.If he makes a $15,000 QCD, he only needs to take $45,000 as his RMD and is only taxed on that amount. This strategy could save Tom thousands in taxes, especially if he doesn't itemize deductions due to the higher standard deduction.

Key points:

• QCDs are only for traditional IRAs, not Roth IRAs.
• The charity must be a qualified 501(c)(3) organization.
• QCDs can help lower your AGI, potentially reducing Social Security benefit taxation.
• You only need to be 70½ or older to make a QCD, even though RMDs now start at 73.

 
Conclusion
By avoiding these tax mistakes, you will set yourself up for a more secure financial future. Remember, tax laws are complex and change frequently. Always consult a tax professional or financial advisor for personalized advice tailored to your situation.
Footnotes

1. IRS. (2023). "Topic No. 409 Capital Gains and Losses." https://www.irs.gov/taxtopics/tc409 ↩
2. IRS. (2023). "Rev. Proc. 2023-34." https://www.irs.gov/pub/irs-drop/rp-23-34.pdf ↩
3. Social Security Administration. (2023). "Income Taxes And Your Social Security Benefit." https://www-origin.ssa.gov/benefits/retirement/planner/taxes.html ↩
4. IRS. (2023). "Publication 915: Social Security and Equivalent Railroad Retirement Benefits." https://www.irs.gov/publications/p915 ↩
5. IRS. (2023). "Retirement Topics - Qualified Charitable Distributions." https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-iras-distributions-withdrawals ↩

-Seth Deal