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Is Tax Smoothing Right for You?

Posted by Myles B. Brandt, M.S., CFP® on 7 February 2018 | 0 Comments

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We have run into many situations in which someone retires in their 60s and defers Social Security and IRA distributions until 70. In the meantime, they may be living off taxable brokerage accounts. During this period between retirement and age 70, there is usually a gap in taxable income. When they turn 70, taxable income and tax rates can increase when Social Security and IRA distributions kick in. Tax smoothing is a strategy that takes advantage of these gaps in income in order to lower future tax liability. 

 

This strategy can keep a retiree from going into higher tax brackets for the rest of their retirement. Gaps in income are filled by either realizing capital gains or doing partial Roth conversions. Because you can draw from Roth accounts tax-free, your after-tax income increases.  

It is particularly useful in survivor-ship scenarios. If one person in a couple dies, the survivor moves from a filing jointly to filing single. Often the only change in income is a dip in Social Security. The survivor can be pushed into higher marginal and effective tax brackets. Having done partial-Roth conversions will make this less painful.

Tax smoothing can be useful for anyone who has gaps in income. In many cases graduate school students who have an IRA or 401k can do a partial Roth conversion and not have any tax liability.

This can be a very powerful strategy when it is coupled with placing more risk in Roth accounts and less risk in tradition IRAs. Roth accounts can accumulate tax free for a long, long time.

We have developed a model that figures out how much of that income gap to fill. If you think this strategy is right for you, we would love to discuss it with you and run some calculations. 

Myles B. Brandt, M.S., CFP®


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