Can withdrawals from retirement accounts affect which tax bracket you fall in? Whether income from retirement account withdrawals can push you into a higher tax bracket depends entirely on the type of account. Any income you earn after retirement from part-time employment or rental properties is still fully taxable at your normal income tax rate. However, if the bulk of your income comes from retirement savings accounts, such as 401(k) or IRA accounts, your tax bracket may be lower than you think.
Traditional 401(k) and IRA accounts are funded with pretax dollars. This means you defer paying income taxes on the portion of your earnings you directed to that account while you were working. Instead of paying income taxes on your full paycheck in the year it was earned, the IRS allows traditional account participants to defer taxation until the money is withdrawn. This is a great tool for those who think they will be in lower tax brackets after retirement. However, because you have not yet paid income tax on those funds, any withdrawals you make from a traditional account must be included in your taxable income for that year and may push you into a higher bracket.
The debate about which type of retirement account is preferable, traditional or Roth, is ongoing. The upfront tax benefits of traditional accounts notwithstanding, a Roth account can help you keep your taxes low after retirement. This is because Roth accounts are funded with after-tax dollars. You pay income taxes on the full amount of your earnings during your working years, but all your contributions and any interest earned on them are tax-free upon withdrawal. This means if you want to spend $100,000 in a given year and have that amount or more in a Roth account, your entire income for the year is tax-free.
There are some stipulations for tax-free Roth withdrawals. For your distributions to be completely tax-free, you must be at least 59.5 years old and have held the account for at least five years prior to your first withdrawal. If you do not meet these requirements, the total amount of your previous contributions is still tax-free, since you cannot be taxed twice on those dollars, but any interest earnings you withdraw are taxed at your normal income tax rate and may incur an additional 10% penalty tax.
Tax Brackets for 2019
In 2019, the tax bracket requirements were once again revised by the IRS. Assuming you file as single, the lowest 10% tax bracket applies if your income is below $9,700. If you earn more than this, up to $37,475, your taxable income is subject to the 12% rate. Tax rates jump to 22% for those earning between $37,476 and $84,200. Tax rates continue to increase up to 37% for those who earn above $510,301.
Since most analysts estimate retirees only need 80% of their working years' income to live comfortably, using a Roth account alone or in conjunction with a traditional 401(k) or IRA may be the key to keeping your tax bill low. If you have both types of accounts, limit your traditional account withdrawals to the amount that keeps you in a lower tax bracket, and then supplement that income with Roth funds.