Living in Retirement
Tax-savvy withdrawals in retirement
March 20, 2014
Colin Kelton: We've got another question, which I think corresponds great to this audience. It comes from Richard in New Bern, North Carolina. He asks, "Please comment on the recommended order in which one should spend from the portfolio." We just talked about how to calculate how much to take, but if you're recently retired, you've probably collected various accounts over all these years. Now you look and say, "Where do I draw funds from first?" Colleen, why don't you start?
Colleen Jaconetti: We get this question a lot, actually, and when it comes to taking withdrawals from a portfolio, we would recommend starting with required minimum distributions, or RMDs. And the reason why these are the first portfolio source to meet income needs is because they are required by law. So any investor who owns a tax-deferred account and is over 70½ has to take these distributions. So we would recommend those be the first monies used for spending.
After that we would then say, start looking at your taxable portfolio. Maybe spend the interest dividends and capital gains distributions on any assets that you hold in a taxable account. So these are the next source, because they're really taxed to the investor whether they spend them or reinvest them.
But if you would reinvest them and then you just spend them in three to six months, you actually can incur higher taxes to meet the spending need. Typically these two areas actually cover a lot of retiree spending needs. If the retiree still needs more money, we would then start selling assets from the taxable account. Obviously, the whole goal here is minimize taxes. So if you would sell something at a loss, sell something at no gain or a small gain until the taxable portfolio would be depleted.
And then once your taxable portfolio has been depleted, you really have a decision to make. Are you going to spend—? Within your tax-advantaged accounts you could have tax-deferred accounts, 401(k), traditional IRA, as well as tax-free accounts such as Roth, and the primary driver here of which account to spend from first is really your tax bracket.
You want to spend from your tax-deferred account when you think your tax rate will be the lowest. A lot of people really don't know when their tax rate will be the lowest, so that can at times be a little bit challenging. But if for some reason you know right when you retire, you're still having part-time income or things like that, you may want to consider delaying spending from your tax-deferred account because your income could be higher at this time. Maybe spend from the tax-free account first. So it really comes down to spend from your tax-deferred account whenever you think your tax rate would be the lowest.
Maria Bruno: And given the audience that we have, so we have a number of near-retirees, I think this is a good discussion to have because what Colleen is alluding to is, essentially, tax diversification, much like asset allocation, having assets spread across, in this situation, different account types. So it would be taxable, tax-deferred, and Roth.
So if you are nearing retirement, for instance, you might have an opportunity to potentially direct future savings into different account types, which would then give you flexibility when you are drawing on an annual basis to perhaps pick and choose or be more judicious in order to be tax-efficient.
All investing is subject to risk, including the possible loss of the money you invest.
For more information about Vanguard funds, visit vanguard.com or call 877-662-7447 to obtain a prospectus. Investment objectives, risks, charges, expenses, and other important information about a fund are contained in the prospectus; read and consider it carefully before investing.
When taking withdrawals from an IRA before age 59½, you may have to pay ordinary income tax plus a 10% federal penalty tax.
This webcast is for educational purposes only. We recommend that you consult a financial or tax advisor about your individual situation.
© 2014 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor.
Minimize the tax bite when withdrawing your assets
It's not what you earn but what you keep, and that goes for retirement spending too. Colleen Jaconetti and Maria Bruno of Vanguard's Investment Strategy Group say the order in which you withdraw your assets is a key factor to ensure your distributions are tax-efficient.
Other excerpts from this webcast:
- The 4% rule and a dynamic retirement spending plan
- Required minimum distribution basics
- Annuities and your retirement portfolio
- The biggest mistake people make with their retirement portfolio
- All investing is subject to risk, including the possible loss of the money you invest.
- For more information about Vanguard funds, visit vanguard.com or call 877-662-7447 to obtain a prospectus. Investment objectives, risks, charges, expenses, and other important information about a fund are contained in the prospectus; read and consider it carefully before investing.
- When taking withdrawals from an IRA before age 59½, you may have to pay ordinary income tax plus a 10% federal penalty tax..
- This webcast is for educational purposes only. We recommend that you consult a financial or tax advisor about your individual situation.