20 Common Tax Mistakes Retirees Make
Avoiding common tax mistakes in retirement can help protect your savings and prevent unnecessary penalties.
- Chris Graciano
- 4 min read
Retirement should be a time to enjoy financial security, but tax missteps can lead to unexpected bills and reduced income. From mismanaging withdrawals to overlooking tax credits, retirees often make avoidable errors. This list highlights 20 frequent tax mistakes and how to sidestep them for a smoother financial future.
1. Forgetting Required Minimum Distributions (RMDs)
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Retirees must start taking RMDs from traditional IRAs and 401(k)s at age 73. Failing to withdraw the correct amount results in a 25% penalty on the shortfall.
2. Claiming Social Security Too Early
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Taking Social Security at age 62 permanently locks in lower monthly payments. Waiting until full retirement age or even 70 boosts benefits and reduces taxes.
3. Not Withholding Enough Taxes from Withdrawals
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Many retirees forget that traditional IRA and 401(k) withdrawals are taxable. Not withholding enough can lead to a surprise tax bill in April.
4. Overlooking Roth IRA Benefits
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Roth IRAs offer tax-free withdrawals, but many retirees ignore them. Using Roth funds strategically can lower taxable income and avoid tax bracket jumps.
5. Paying Extra Medicare Premiums by Exceeding Income Limits
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Higher-income retirees face additional Medicare charges, known as IRMAA. Managing taxable income can help avoid these costly surcharges.
6. Not Taking Advantage of the Standard Deduction
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Retirees often fail to structure income to maximize tax-free withdrawals under the standard deduction. Keeping taxable income below IRS thresholds ensures tax savings.
7. Mismanaging Investment Sales
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Selling stocks or mutual funds without considering tax implications can lead to hefty capital gains taxes. Long-term holdings qualify for lower tax rates, but poor timing can increase tax burdens.
8. Ignoring Qualified Charitable Distributions (QCDs)
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Donating directly from an IRA after age 70.5 can satisfy RMDs while avoiding taxable income. Many retirees miss this opportunity to lower their tax bills.
9. Not Factoring in State Taxes
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Some retirees move without researching how their new state taxes retirement income. States vary in how they tax pensions, Social Security, and withdrawals.
10. Taking Large Lump-Sum Withdrawals
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Cashing out a large portion of a retirement account in one year can push retirees into higher tax brackets. Spreading withdrawals over multiple years helps minimize taxes.
11. Forgetting About the Net Investment Income Tax (NIIT)
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Retirees with high investment income may owe an extra 3.8% NIIT. Keeping taxable investment income below IRS thresholds can prevent this additional tax.
12. Miscalculating Taxes on Social Security
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Up to 85% of Social Security benefits can be taxable, depending on total income. Many retirees are caught off guard by this tax hit.
13. Failing to Do a Roth Conversion in Low-Tax Years
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Retirees in lower-income years can convert traditional IRA funds to a Roth at a reduced tax rate. Many miss this chance to lock in future tax-free withdrawals.
14. Holding Too Much in Taxable Accounts
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Interest and dividends from non-retirement accounts can lead to higher annual tax bills. Moving some assets into tax-advantaged accounts can reduce yearly tax obligations.
15. Not Using a Health Savings Account (HSA) Effectively
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HSAs allow tax-free withdrawals for medical expenses, yet many retirees underutilize them. Paying for healthcare with taxable funds instead of HSA savings increases tax burdens.
16. Misunderstanding the Saver’s Credit
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Low to moderate-income retirees who contribute to retirement accounts may qualify for the Saver’s Credit. Many overlook this valuable tax benefit.
17. Failing to Adjust Investment Strategies for Taxes
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Some retirees continue aggressive investing without considering tax consequences. Moving towards tax-efficient funds and municipal bonds can reduce tax liability.
18. Ignoring Tax Bracket Management
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Unplanned withdrawals can push retirees into higher tax brackets. Properly spreading out income sources prevents unnecessary tax increases.
19. Paying Taxes on Unnecessary RMDs
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Retirees who don’t need RMD funds can avoid taxes by converting to a Roth or donating via a QCD. Many forget these options and take taxable withdrawals instead.
20. Not Consulting a Tax Professional
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Tax rules are complex, and DIY mistakes can be costly. A financial planner or tax expert can provide personalized strategies for minimizing taxes.