When you’re a W-2 employee (i.e., most of your working years unless you’re self-employed or a contractor), you often don’t need to plan for taxes other than determining how much you need to have withheld based on your income, and any deductions you may be eligible for.
That’s because your employer withholds and remits taxes at both the federal and state level—you effectively pay taxes without actually doing anything before you file your annual tax return, at which point you either make up the difference or get a refund.
It’s easy to assume that when you retire, it’s even simpler. After all, you don’t really have income.
Except you do. Social Security, pensions, and distributions from tax-deferred and tax-advantaged retirement accounts all count as income to the IRS. Each of them is taxed differently, and you’re responsible for sending those taxes to Uncle Sam.
In other words, when you’re in retirement, taxes are something you need to both plan for and strategize around.
Ordinary income taxes
You’ll notice as you keep reading that many of the listed income sources are taxed as “ordinary income.” Ordinary income ranges from 10% to 37%, depending on the income level.
For the 2025 tax year, the marginal taxes on ordinary income are as follows.1
| Tax Rate |
Individual Single Taxpayer |
Married Couples Filing Jointly |
| 10% |
Less than $11,925 |
Less than $23,850 |
| 12% |
$11,926–$48,475 |
$23,851–$96,950 |
| 22% |
$48,476–$103,350 |
$96,951–$206,700 |
| 24% |
$103,351–$197,300 |
$206,701–$294,600 |
| 32% |
$197,301–$250,525 |
$294,601–$501,050 |
| 35% |
$250,526–$626,350 |
$501,051–$751,600 |
| 37% |
$626,351+ |
$751,601+ |
So if you’re married, filing jointly, and your income is $150,000, does that mean you’d pay $33,000 in taxes?
No, because ordinary income is a marginal tax rate, which means that different blocks of your income are taxed at different rates. The first $23,850 is taxed at 10%, but the income between $23,851 and $96,950 is taxed at 12%, and the income between $96,950 and $150,000 is taxed at 22%.
| Tax Rate |
Income Block |
Taxes |
| 10% |
$23,850 |
$2,385 |
| 12% |
$73,099 |
$8,771.88 |
| 22% |
$53,049 |
$11,670.78 |
| TOTAL |
|
$22,827.66 |
Understanding how marginal tax rates are calculated will be important in planning for retirement taxes.
Retirement income and how it’s taxed
Let’s review different kinds of retirement income and how they’re taxed federally.
Social Security benefits: Up to 85% of the value of your Social Security benefits can be taxed as ordinary income based on your filing status and your overall income level.2
Taxable investment accounts: Investments in regular brokerage accounts will be subject to taxes based on the type of income generated. Short-term capital gains are taxed as ordinary income, but long-term capital gains are taxed at lower rates.
Traditional IRA, 401(k), and other traditional retirement accounts: Withdrawals are generally taxed as ordinary income. Early withdrawals prior to age 59 ½ are subject to both taxes and a 10% penalty in most cases.
Roth IRA, 401(k) and other Roth retirement accounts: Roth accounts are funded with after-tax contribution and then grow tax-free. Withdrawals are tax-free as long as you’re at least age 59 ½, and if the five-year rule for contributions is met.
Annuities: For non-qualified annuities (annuities held outside a tax-advantaged retirement account), generally a portion of a monthly annuity payment is taxable and a portion is tax-free based on the cost of purchasing the annuity. If the annuity is qualified (held inside an IRA or other traditional retirement plan) then all distributions would be taxable. Distributions from qualified annuities held in a Roth account would be tax-free if all requirements are met.
Pensions: Pension payments are generally taxed as ordinary income.
Interest bearing accounts: Interest earned in accounts like money market accounts, CDs, savings accounts, and even brokerage accounts are typically taxed as ordinary income.
Dividends: Dividends that meet the criteria for qualified dividends are taxed at preferential long-term capital gains rates. Non-qualified dividends are taxed as ordinary income.
Sales of your home: If you sell your primary residence, you may exclude up to $250,000 ($500,000 for a married couple) of any gains on the sale from your income in the year of the sale. There are certain ownership and other criteria that must be met to get this exclusion.
Depending where you live, you may enjoy some breaks on state taxes on retirement income.
Planning your retirement taxes
The goal is to minimize your taxes over the course of your whole retirement as much as is reasonably possible. So, now that you know how different income sources are taxed and how marginal taxes work, how do you actually put those together to plan your tax strategy?
First, identify your non-negotiable income streams in different years. By non-negotiable, we mean those you can’t choose to take or not take.
For example, once you start taking Social Security, you can’t choose to stop it, except within the first year of claiming benefits. Even then, this is a potentially costly option.3 RMDs kick in for traditional retirement accounts once you turn 73. If you have a pension, you may or may not be able to decide when it begins.
Second, identify periods when your non-negotiable income is lower than usual. For example, many retirees go through a “gap” period between the time they retire and when they claim their Social Security benefits. They might retire in their early sixties and wait until age 70 to claim it in order to receive the maximum benefit.
Finally, think strategically about using those lower periods to pull taxes forward from higher-income years to lower-income years. For example, the gap between retiring and taking Social Security may be a good time to do a Roth conversion. It might also be a good time to withdraw from traditional retirement accounts in order to lower RMDs in higher-income years.
Paying 12% instead of 22% in taxes on a conversion or withdrawal is a meaningful difference. Even paying 22% instead of 24% can make a significant difference to your overall savings.
Paying estimated taxes
As a W-2 employee, you were probably accustomed to dealing with taxes once a year. That worked because your employer was actually sending the IRS taxes on your behalf all year long. But when you’re no longer a W-2 employee, it’s up to you to send in regular tax payments.
Called Estimated Taxes, these payments are due four times a year:
- April 15 for income earned between January 1 and March 31
- June 15 for income earned between April 1 and May 31
- September 15 for income between June 1 and August 31
- January 15 of the following year for income earned between September 1 and December 31
Note that these aren’t quarterly payments. The second period is only two months long, and the last one is four months long.
Estimate the taxes you’ll owe on these various types of retirement income, and then remit the taxes to the IRS with Form 1040-ES or online. When you file your annual taxes, you’ll either pay the difference or receive a refund.
While you don’t want to overpay, you also don’t want to underpay—the IRS charges penalties for significant underpayment.
Conclusion
Tax planning in retirement is often more complicated than it is during your working years. With some planning and thoughtful strategy, you can help minimize the taxes you owe and help your retirement savings go further. If it feels daunting, a qualified financial planner can help you map out your retirement income and think through your options.
4 min read
