You pay a lot in taxes, right? Actually, by historical standards, Americans are paying less in Federal income taxes than for most of the last 100 years. While today's tax brackets may be as low as they've ever been, they are scheduled to increase on January 1, 2026 by order of the Tax Cuts & Jobs Act of 2017. But, in the more distant future, tax rates are going to need to move much higher because Medicare and Social Security are scheduled to run out of money in 2026 and 20341, our runaway National Debt is nearing $30 trillion2, and government budget deficits are expected to top $1 trillion dollar for the next decade3.
As bad as this sounds, there are 3 ways you can actively save so that you pay little or no income taxes in retirement. They are:
- Contribute to Roth IRAs and Roth 401(k)s. If you are under the age of 50 and make less than $140,000 as a single filer or $208,000 as a joint filer, you are able to contribute $6,000 to a Roth IRA. Over 50? That contribution increases to $7,000. Roth 401(k)s carry no income limits, but under-50-year-olds can contribute $19,500 and those over 50 $26,000. Money invested in Roth accounts is after-tax, grows tax-deferred and comes out tax-free, as long as the account has been open for 5 years and you are older than 59 1/2. Access to your principal is always tax-free, anytime.
- Contribute to an Health Savings Account. This is a great way to get a tax deduction and pay for healthcare costs in retirement, tax-free. According to a Fidelity study4, the average 65-year-old couple will spend $295,000 in retirement on healthcare - and that is in today's dollars! Contributions to HSAs are tax-deductible, and are limited to $3,600 for single filers and $7,200 for families under the age of 50, with an additional $1,000 permitted if you are over 50. Many plans offer mutual fund investment options, and all growth is tax-deferred and comes out tax-free for qualified medical expenses. The only requirement for participating in an HSA is choosing a qualifying high deductible health plan.
- Convert existing IRAs to Roth IRAs. Savings in IRAs will be taxed as Ordinary Income in retirement, when taxes will be much higher in response to our country's fiscal challenges. When converting an IRA to a Roth IRA, you pay tax on the amount of the conversion, at today's very low historical tax rates, and then can invest the Roth as you would an IRA for tax-deferred growth and tax-free retirement income.
Saving to become tax-free in retirement is not difficult, it only requires a plan. If you act proactively and deliberately, you may experience a retirement free from Federal taxation, which can also help your nest egg last a whole lot longer.
1 2020 OASDI Report - Social Security 2 usdebtclock.org. 3 Congressional Budget Office 4 How To Plan For Rising Healthcare Costs, Fidelity Viewpoints