In TV and movies, retirement magically falls into place. After years of loyal work for one company, an employee signs off for a carefree retirement of traveling, golfing and spending time with grandchildren. The end.
It’s debatable whether this was ever an accurate depiction, but one thing is certain: Retirement has clearly shifted over the past few decades. People are working longer and hold several jobs over the course of a lifetime.
According to the Bureau of Labor Statistics, late Baby Boomers (those born between 1957 and 1964) will hold an average of 12.9 jobs from age 18 to 58. Younger Americans are expected to have even greater job mobility.
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These changes can pose hidden costs in the form of increased tax liabilities.
However, the good news is, even though work and retirement may have grown more complex, Americans have a lot of options at their disposal.
Here are five strategies that will help you keep more of what you’ve earned over your lifetime.
1. Start planning early
It’s never too early to start planning for retirement. But ideally, you should start having extensive discussions with your adviser roughly 10 years before you expect to stop working.
The more time you give yourself, the more carefully you can consider cash flows and ways to optimize your tax liabilities throughout retirement.
2. You can’t ‘set and forget’ a 401(k)
For most people, the biggest ticking time bomb in their retirement is their pretax 401(k)s. Many people assume they’ll be in a lower tax bracket when they retire. But because a growing number of retirees are taking part-time work, consulting, starting businesses or growing their other investments, they often find themselves in their highest-earning years right when they hit the required minimum distribution (RMD) age, which is 73 (rising to 75 for those born in 1960 and later).
Though you can avoid taking RMDs if you’re still employed by the company where you have your 401(k), this only postpones the inevitable. Also, since people tend to move jobs throughout their lives, there’s a good chance that you may also have IRA rollovers that will require RMDs.
3. Consider a Roth conversion
Financial advisers often urge young people to invest in a Roth IRA, as this strategy leverages their longer time horizon to achieve tax-free growth. But the Roth IRA strategy is also effective for older people who may have graduated into higher income through their RMD years.
Your financial adviser can use a tool to measure all income sources — RMD and non-retirement withdrawals, Social Security income, qualified distributions and Roth conversions — over a projected 25-year retirement to determine how to deliver the greatest tax efficiency. This can help save retirees tens of thousands in lifetime taxes.
4. Avoid inheritance complications
The ticking time bomb element of a pretax 401(k) not only affects retirees, but can also pose problems for their heirs. Once portfolios are passed on, children must take minimum distributions and then deplete the full account by the end of year 10.
This can create further complications for heirs who are often at their peak earning years, forcing them to withdraw at a higher tax bracket. When you convert into a Roth IRA, heirs also inherit tax-free.
5. Maximize different phases of retirement
Retirees should consider converting to a Roth IRA in the early years of their retirement, before RMDs are in effect, as this can allow you to leverage a lower tax bracket.
For example, some people decide to take early retirement (at 60 to 62) before they are eligible for Social Security. They may have some savings on the side coupled with a part-time job that they use primarily for health insurance.
You can leverage this early period to complete the Roth conversion while your income is still low.
Your Hollywood ending
If you’re invested in a 401(k) plan, congratulations. Only 59% of U.S. adults are invested in some form of retirement account. But investing into a 401(k) without planning for retirement could mean you’re setting yourself and any heirs up for a potentially hefty tax bill.
By starting the planning process well before your 65th birthday and then taking advantage of the different phases of retirement, you can keep more of what you’ve earned, enjoy a long and fulfilling old age, and even leave a legacy to your loved ones. That’s the real happily ever after.