As you gear up to leave the workforce and rely on your savings and investments for income, knowing how to plan for taxes in retirement becomes a very helpful skill to have.
Working tax efficient strategies into your financial plan can help you boost your long-term financial health. And that starts by understanding the three ways that various accounts are taxed: tax now, tax later and tax never. We'll discuss how diversifying your assets in these three ways can help lighten your tax load once you retire.
The three tax buckets: tax now, tax later & tax never
All investment accounts and financial products fall into one of three categories: "tax now", "tax later" and "tax never." Understanding which bucket your assets fall into is key to setting up a balanced financial strategy that can help you now and in the future.

Tax now
The "tax now" bucket generally consists of accounts funded with dollars from your paycheck that you've already paid tax on. Accounts included in the "tax now" category include:
- Checking and savings accounts1
- Brokerage accounts1
- Mutual funds1
With "tax now" accounts, you've also already paid taxes on increases to the account's value due to interest, dividends and gains. Account increases might take the form of interest on a banking account or dividends and gains based on stock activity in your brokerage accounts or
Taxable accounts like these have certain advantages. There's often no investment or contribution limits, and the money is liquid so it's accessible without financial penalties. This makes them suitable for building a base you can access before and during retirement, for example, if you need a down payment on a house or seed money for a business endeavor.
This bucket will also continue to be what you use as a source of day to day living expenses in retirement. But because of the immediate tax bite, these accounts aren't the only bucket you want to have on hand for retirement savings.

Tax later
In the "tax later" bucket are accounts you fund with pre-tax dollars. And they grow tax-deferred, which means you pay income tax when you withdraw funds. The most common "tax later" accounts are:
- 401(k)s 2,3,4
- 403(b)s 2,3,4
- Traditional, Simplified Employee Pension Plans (SEP), Savings Incentive Match Plan for Employees (SIMPLE) individual retirement accounts (IRAs) and other pension plan assets 2,3,4
- Variable and fixed annuities 2,5
- U.S. Savings Bonds 6
These tax-advantaged accounts are designed for retirement savings, so they're subject to certain access rules and restrictions. You'll want to note that distributions that you take from these before age 591/2 can incur a 10% early withdrawal penalty and trigger income taxes.
If your workplace has a retirement plan, like a
Keep in mind that 401(k)s, SEP IRAs and SIMPLE IRAs involve
Qualified

Tax never
The bucket "tax never" includes accounts that are generally funded with after-tax dollars and grow tax-deferred. Crucially, the gains from these may be income-tax-free when distributed. Among the more common examples are these:
- Roth IRAs 5,7
- Roth 401(k)s and Roth 403(b)s 5,7
- Municipal bonds 8
- Cash value of life insurance 9
- Health savings accounts (HSAs)
Roth accounts, in particular, offer important potential benefits. For one, they allow younger workers to pay income tax when they're in a different tax bracket than the one they expect to be in during retirement. They also provide tax diversification, giving you access to tax-free income in your later years.
Retirement accounts aren't the only assets that fit into the "tax never" group. Most (but not all)
One potentially tax-free asset that often gets overlooked in terms of retirement is an
The caveat is that you can only contribute to an HSA if you have a high-deductible health plan. But if you do, funding them to take care of your future needs—anything from physician and lab bills to eyeglasses and medications—can make a lot of sense.
According to HealthView Services, the average 55-year-old couple will pay a staggering

Factoring in taxes on Social Security
What bucket do Social Security payments fit into? It depends on the income you have besides Social Security, as well as your tax filing status and the size of your benefit. The IRS uses a measurement called "combined income" (your adjusted gross income plus nontaxable interest plus half of your Social Security benefit) to determine the tax status of your benefits.
As your combined income increases, you may have to
As a hypothetical example, if your combined income is between $25,000 and $34,000 (or $32,000 and $44,000 for joint filers), you'd pay income tax on up to 50% of your benefits. If you make more than $34,000 (or $44,000 if filing jointly), up to 85% of your benefit could be subject to tax. A key element of how to plan for taxes for retirement is reducing your adjusted gross income, thereby increasing the amount of your Social Security benefit that you get to keep.
Why tax diversification matters
It's important to diversify your portfolio by allocating investments across a variety of asset classes. That mix will be determined by your objectives and
Investing in Roth accounts, for example, may enable you to pay taxes on income when you're in a lower tax bracket—especially if you're young and haven't yet reached your peak earnings—rather than in retirement. And later in life, having some assets in the "tax never" bucket also enables you to draw from your assets strategically in order to stay in a lower tax rate. The more investment income you rely on, the bigger the potential tax savings.
One hypothetical example is a 70-year-old couple who needs $100,000 of investment income to supplement their Social Security benefits. If they pull the entire $100,000 from a "tax later" account like a traditional 401(k), everything they pull out in excess of $83,550 is taxed at the 22% rate. But if they pull $80,000 from a taxable 401(k) and $20,000 from a Roth IRA, they stay in the 12% tax bracket. They'd keep considerably more of the money they withdraw.

4 strategies to help reduce your tax liability
The use of prudent retirement tax strategies is one of the best ways to make your assets last when you leave the workforce. Here's how to plan for taxes in retirement and help you potentially keep more of your investment returns:
1. Use "tax later" accounts for retirement funds
It can make sense to use fully taxable stocks and mutual funds for short-term needs. But for your retirement funds, you generally want to max out tax-advantaged accounts like 401(k)s and IRAs rather than relying on "tax now" assets.
2. Take advantage of Roth accounts
Roth 401(k)s and Roth IRAs are particularly beneficial for younger investors or those who believe they may be in a higher tax bracket later in life. If you're not sure where you are relative to your tax bracket in retirement, you may want to mix Roth and traditional accounts. Some employers allow you to split your retirement allocation. If not, you can invest in a 401(k) at work and open a Roth IRA on the side. Note that with Roth 401(k)s, your contributions are "tax never," but your employer's matching contributions are "tax later."
Determine whether a Roth conversion makes sense
Do you believe you haven't hit your full earning potential and you expect to be in a higher tax bracket down the road? You have the potential for a do-over with a
3. Consider permanent life insurance
The cash value of a
4. Invest tax-efficiently
Perhaps you've maxed out your 401(k) and IRA contributions, and the only place left to invest are "tax now" assets like
Are you in a high tax bracket? Consider if a

Planning with expert guidance
Working tax-efficiency into your financial planning helps you to keep more of the money you earned and invested for retirement. A local