Unfortunately, taxes do not end on the day that you quit working full-time. Despite your changed status, you still must contend with tax complications during your retirement years. The following is a brief summary of a few critical areas.
Social Security benefits: The amount of Social Security benefits you receive in retirement depends on your work history, the year you were born and the year you choose to begin payments. For instance, you can retire at age 62, but you’ll receive a lower amount than the retirement benefit available at your “normal retirement age.” This ranges from age 65 for older individuals to age 67 for those born after 1959.
These Social Security benefits are taxable if your “provisional income” (i.e., modified AGI plus tax-exempt income plus 50% of Social Security benefits) exceeds $32,000 ($25,000 for single filers). The tax liability is increased if you clear a “second tier” of $44,000 ($34,000 for single filers). In this case, up to 85% of your benefits may be subject to tax.
If you continue working part-time in retirement, you may lose a portion of your benefits under the “earnings test.” For example, if you are between the ages of 62 and normal retirement age, you forfeit $1 of benefit for every $2 earned above an annual limit of earnings ($13,560 for 2008). If you reach full retirement age in 2008, you forfeit $1 of benefit for every $3 earned above $36,120.
IRAs: The key rule is that you must begin taking distributions from a traditional IRA by April 1 of the year following the year in which you turn age 70½. The distributions are taxed at ordinary income rates. In other words, you cannot claim tax-preferred capital gain treatment on distributions even if the funds were invested in mutual funds or other securities.
Note that lifetime distributions from a Roth IRA are not mandatory. The Roth IRA distributions are tax-free if they are “qualified” (e.g., paid after you have reached age 59½ if the account has been in existence for at least five years). But you must pay tax on the conversion of a traditional IRA into a Roth.
Company retirement plans: As with an IRA, distributions from a qualified retirement plan at the company where you have worked must begin after you have turned age 70½. The amounts received from a qualified retirement plan are also taxed at ordinary income rates.
However, if you continue working part-time, you can postpone distributions until your actual retirement date. This postponement is not available if you own 5% or more of the company.
This is just the tip of the iceberg. There are many other income tax wrinkles for retires, not to mention concerns over estate and gift taxes. Seek guidance from an experienced tax professional.
