All Retirement Income is Not Created or Taxed Equally
Whether you’re nearing retirement or already retired, you need to consider your retirement income needs. Budgeting for taxes and making sure your withdrawals will cover them could keep you from being caught off guard when the tax bill comes.
Let’s explore a few examples of investments that are typically incorporated into retirement portfolios. It’s important to note there are tax considerations for each of these investments.
Tax-free (municipal) bonds – When you own municipal bonds your interest payments will be free from federal income tax. If the municipality that issues the bond is located in your state, your interest payments also may be exempt from state and local taxes. (Some municipal bonds may be subject to the alternative minimum tax as well as state and local taxes. Contact your tax professional regarding your specific situation.)
Immediate annuities and Deferred Income Annuities – Immediate annuities are long-term investments designed to provide tax-efficient income for retirement. When you invest in an immediate annuity or a deferred income annuity, you pay a lump sum to an insurance company in return for a stream of income beginning either immediately, within 12 months after purchase or within two to 10 years. This means you can receive predictable income payments for life, regardless of how long you live or how the market performs. In many cases, a portion of each annuity payment is considered a return of principal and not subject to income tax. However, the earnings portion of each payment is taxed as ordinary income. That means once you have received the original principal back, any future payments would consist of earnings only and could be fully taxable. If the lump sum is from a qualified (tax-deferred) account, such as an IRA, the payments you receive are generally fully taxable from the start.
Dividend-paying stocks – Many stocks pay dividends, which are a portion of a corporation’s profits paid out to its stockholders. For most investors, a qualified dividend (one that has met certain IRS requirements) is taxed at the capital gains tax rate, which can be between 0% and 15%, depending on your tax bracket. An additional consideration for those earning over certain income limits ($200,000 if single, $250,000 if married) is a newly effective 3.8% Medicare tax that may apply to your net investment income that exceeds those income limits.
Talk with your tax professional to learn more about how these types of retirement income are taxed, and ask your financial advisor about strategies designed to fit into your portfolio.
Edward Jones, its employees and financial advisors cannot provide tax or legal advice. This information is a summarization and should not be depended upon for other than broadly informational purposes. Please consult your attorney or qualified tax advisor regarding your situation.