Which Accounts Should I Withdraw From in Retirement?
If you have multiple retirement accounts, you'll have to decide which ones to withdraw from and in what order. A retirement withdrawal strategy can help you see which withdrawal approach will be most beneficial to you over the long run.
There are three main retirement withdrawal strategies to consider, and each has many variations. Using the right approach for your situation can result in tax savings. A customized approach can save $50,000 to $100,000 in taxes over a 30-year retirement for many retirees.
Most people followed a conventional withdrawal strategy 10 years ago. They used non-retirement account savings and investments to support living expenses while waiting to withdraw from IRAs until age 70½ (now age 72 unless you reached 70½ before January 1, 2020) when required minimum distributions begin. This approach was often combined with starting Social Security early, between the ages of 62 and 65.
The age to receive full Social Security benefits is 67 if you were born in 1960 or later. Those born between 1943 and 1954 can receive full benefits at 66, and those born in 1955-1959 have staggered full retirement dates (66 and two months, 66 and four months, etc.).
More research is available now on how this approach will work out over time, and retirees are getting smarter. Many are realizing that delaying the start of Social Security to age 68 or 70 will provide more long-term security.
You'll still have to decide which accounts to draw from while you're delaying Social Security. The answer depends on your tax bracket. For those with pension income, the conventional withdrawal strategy often makes the most sense. While collecting the pension, you withdraw from non-retirement savings and investments and don’t touch your IRAs, 401(k)s, or 403(b)s until you're required to do so.
For those with no pension income, or very small pensions such as a few hundred dollars a month, the next two strategies—reverse order or hybrid—may result in fewer taxes paid in retirement than the conventional approach.
Reverse Order Strategy
A reverse order retirement withdrawal strategy is when you withdraw from your retirement accounts like IRAs and 401(k)s first while letting any Roth IRAs and non-retirement account investments continue to accumulate. This can be the most tax-efficient approach for folks who have no pension, have a decent amount of savings in IRAs, and are delaying the start of Social Security until age 70.
Why would this approach be better? If you're retiring before age 70 and have no pensions, it's likely that your taxable income will be low between the ages of 60 and 70. By withdrawing from IRAs during the years when your taxable income is low, you can maximize the 10% and 12% tax brackets.
This makes a whole lot of sense if your required distributions from IRAs are likely to bump you into the 24% or higher tax bracket when you reach age 72. It's better to withdraw now and pay 10 or 15 cents on the dollar than withdraw later and pay 25 cents or more on the dollar.
With the hybrid approach, you withdraw from multiple account types within the same year. For example, you may withdraw $20,000 from a non-retirement account by selling a mutual fund or cashing in a CD while also withdrawing $20,000 from an IRA. This approach works well when it's customized to your situation by projecting your tax rate over each year in retirement.
There are a few versions of the hybrid retirement withdrawal strategy. One version involves Roth IRA conversions. You spend down your non-retirement accounts while converting a portion of your IRA to a Roth IRA each year. The amount converted is determined by calculating what amount would fill up the 12% or 24% tax bracket. This approach works if you have enough funds in non-retirement accounts to pay the taxes on the Roth conversion amounts. The Roth conversions lower your future required minimum distributions and lower the amount of taxes you’ll pay at age 72 and beyond in many cases.
Another way to implement this approach is to withdraw from both IRA and non-retirement accounts simultaneously without doing Roth conversions. This is often the best approach if you don’t have enough non-retirement account savings to cover both the tax on the Roth conversions and a portion of your living expenses.
A good retirement planner or tax professional can run a 20- to 30- year projection that estimates taxes and shows you how much should come from which accounts to result in the lowest amount of taxes paid over your retirement years.
IRS. "Retirement Plan and IRA Minimum Distributions FAQs." Accessed Nov. 8, 2020.
Social Security Administration. "Retirement Benefits," Page 3. Accessed Nov. 8, 2020.
Tax Foundation. "2020 Tax Brackets." Accessed Nov. 8, 2020.